If you’re a public employee in the state of Iowa, you have an excellent pension system available to you as the foundation of your retirement plan. Put your state pension together with Social Security and other savings, and you should have enough money to retire. I’ll show you the basic calculation to do, as well as two costly mistakes you’ll want to avoid.
The Iowa Public Employees’ Retirement System (IPERS) is available to permanent employees of public entities, like the state government and cities, Regent universities, community colleges, school districts, and sheriff’s departments. Participation in the program is mandatory, and most members contribute 5.95% of their salary, while their employer kicks in 8.93%, for a total annual contribution of 14.88%. That’s a pretty hefty savings rate, and if you can swing a 20-year career with that level of contribution, you’ll have a significant pension. (From the Member handbook)
Contributions are income tax-deferred (but you pay FICA and Medicare taxes). This just means that you’ll pay Federal and Iowa income taxes once the pension starts in retirement. The maximum wage (for 2017) that counts towards the contribution percentage is $270,000.
There is a vesting formula (typically 7 years of service or working at age 65). Vested members get disability and death benefits and are eligible for retirement benefits at age 55 (at a reduced rate).
When you start to plan for retirement, you can do a quick calc of your retirement benefit. To get the real value down to the dollar, you’ll have to contact IPERS directly. But suppose you want to know the ballpark amount, here’s how you do it:
The calculation IPERS uses is a little more detailed, but this will get you close.
Note that your IPERS pension doesn’t have an annual “cost-of-living-adjustment” (aka COLA). That means your benefit will never go up during retirement, so the effect of inflation will erode your real benefit over time (what it buys when you’re 80 will be less than when you’re 60). This is unfortunate, but a common feature of most pensions.
Now that you have your estimated IPERS benefit, let’s talk about the rest of your retirement income. In our example above, our soon-to-be-retiree has replaced about 40% of her annual income. She will also receive a Social Security benefit, and though that system has its own complicated calculation, you can generally assume Social Security will also pay about 40% of your annual salary.
There are some important caveats here, like the length of employment, and how higher-income workers replace a smaller percentage. Also, your situation is unique, have I mentioned that before? You’re reading this because you want general guidance, but if you want specific answers, a more detailed plan with someone like me is in order.
Caveats aside, your IPERS and Social Security benefits could replace a significant amount of your annual income, around 80% in our example retiree’s case. This is the bedrock of your retirement plan—learn to love these two foundational pieces!
This foundation might not make for a “comfortable” retirement though, with fun extras like hobbies and vacations. For that, you’ll need additional savings. The last rule-of-thumb we’ll discuss today as we build the basic plan for your IPERS-based income is the 4% rule. From your investments and savings, you can safely withdraw 4% per year during your retirement. If you have $100,000 in investments, that means you can safely take out $4,000 per year without hurting your long-term spending goals. AGAIN, this is general advice, and not always useful for specific planning needs. You should do a detailed plan.
But if you’re writing this estimate out on a napkin, you’re going to get pretty close:
IPERS + Social Security + 4% of investments = my (comfortable) retirement income
One of the decisions you make with IPERS is the type of annuity, which is just a fancy way of saying the pension features you get with your monthly benefit. There are a number of options, and one of the popular choices is a Joint & Survivor Annuity, which pays a benefit while you’re alive, and a separate benefit to your survivor (usually your spouse).
Joint & Survivor annuities are fantastic ways to ensure a married couple can comfortably retire, but you need to pick the right percentage option (there are 100%, 75%, 50%, and 25% choices). These options reflect how much your survivor gets: if you pick 100%, they get the same amount as while you were alive, and if you pick 25%, they get that amount.
For example, if you get a $2,000 per month pension, and you elect 100% J&S, your spouse gets $2,000/month if you die. If you elect 25%, your spouse gets $500/month if you die. That’s a BIG difference! But, people sometimes elect the lower 25% because it starts with a higher payout while you’re alive. You trade future uncertainty for more money today.
Remember that your IPERS pension is a foundational piece of your retirement income. It’s not something to play with. If you die, your expenses as a couple are NOT cut in half. They usually only go down 20-30%, not 50%. For your spouse’s sake, you should at least choose the 75% option for J&S, and the 100% option is good, too.
You may have a specific reason you don’t want a 75% or higher J&S annuity, that’s okay. But picking the 25% or 50% J&S is RISKY and can be a huge mistake for your spouse if something happens to you.
Many Iowa public employers offer another retirement benefit called the Retirement Investors Club or RIC. This is meant as an optional savings plan to supplement IPERS. That’s good, let’s use it, save more people!
When you invest in RIC, you will be able to pick from a menu of stock and bond funds. Check it out at https://das.iowa.gov/RIC if you’re wondering what’s available.
But a word of warning—some of the fund choices are garbage! I’m not kidding, these are expensive funds that are not designed to give you the most value as an investor. If I had my way, they wouldn’t be available to investors like us, since there are cheaper alternatives that do a better job. By “cheaper”, I mean their expense ratios are lower, so they give more of the fund returns back to you as the investor.
How do you know which funds are better? It’s not easy, but I have a tip for how to avoid this costly mistake: invest in a target date retirement fund. RIC offers two sets of target date funds through Vanguard and Blackrock—choose one of those. The other fund offering through American Funds is expensive and terrible for your portfolio!
Okay, yes, you need more specific investment advice than this. Ideally, we could talk about your retirement plan in specific detail. But if you want to avoid a costly mistake, and you save with RIC, consider the Vanguard or Blackrock target date retirement funds as winners!
IPERS is a tremendous system designed to ensure you can retire comfortably, once you factor in Social Security and other savings. Once you know the basics of how to use IPERS in your retirement income plan, and a couple costly mistakes to avoid, you’ll be well on your way to the retirement plan of your dreams!
If you’d like to discuss your specific retirement scenario in more detail, let’s talk!
More about IPERS:
© 2020 Arnold & Mote Wealth Management All Rights Reserved