Question by Cardinal Rule: Present value of a retirement pension?
I currently work in the private sector, and am looking for another job. The gov’t jobs include a pension, where after 20 years you get paid for the rest of your life. What are the details of this plan? Do benefits increase if you stay more than 20 years?
Now a related financial question: In comparing salaries offered by private companies versus the gov’t job, how much should I add to the annual salary of the gov’t job to account for this pension that I would get starting in 20 years? Let’s say I start tomorrow at 70k, annual raises of 5%, retire in 20 years. What is the present value of this retirement, so that I can make a better decision about whether to work for the gov’t or private?
Best answer:
Answer by Kraftee
The kind of pension that you describe is called a “defined benefit” pension. I worked for a public employer and I receive such a pension. My employer and I contributed a certain % of my income each month. Rules set by my state determine how my pension benefit will be figured and how long I have to work to receive the benefit. The size of my benefit at retirement is related to how many years I work and the average of my 3 highest years’ salaries.
My pension amounts to about 63% of my highest annual salary. I also receive SS benefits and these two sources together constitute about 90% of the average of my highest annual salary when I was working. I will receive this amount as long as I live. It is like having an annuity. Some pensions allow you several options such as life & 10 yrs certain; a guaranteed income for a surviving spouse; an immediate cash payout; or a guaranteed amount as a death benefit. These options will cost you something in monthly benefit amount. My point is that the value of the pension to you depends on how long you live after retiring and what type of payout option you take.
Another factor to consider: will you also be paying social security taxes and be able to receive SS retirement benefits? In a few states, public employees do not contribute to SS and cannot receive SS benefits. In these states, the employee and employer contributions are higher and the retirement benefits will also be higher to compensate for the fact that these people won’t receive SS.
If benefits are computed on a formula that includes your salary, it follows that the more you earn (or the longer you work and contribute to the system), the higher your pension will be.
The down side to defined benefit pensions can be that they may not include COLAS and therefore your monthly pension stays the same over time.
If you work for a non-profit, you can also contribute before tax $$ to a 403b plan. The tax savings can be substantial. Some employers will match the employee contributions; others do not. This is a way to put away additional money for retirement and save on income tax while you are in a higher tax bracket.
PS: there are people who are trying to retire now with defined contribution retirement plans who would KILL to have a defined benefit plan. Defined benefit plans are becoming more rare as more and more employers (some of them public) are switching to defined contribution plans like 401k.
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