TEACHERS FREE REPORT    3 Little-Known Issues that can make a Big Difference           By Alice Howe CFP®         www.teac...
Make note of the WEP exceptions. The benefit reduction does not apply to all SocialSecurity benefit categories. Two of the...
A popular annuity website indicates that a $45,080.04 lump sum would purchase a$224 guaranteed 100% survivor annuity month...
average pay (usually the last 3 or 5 years), the benefit increases dramatically in thelater stages of one’s career. Even t...
the reduction in the benefit of the foregone year of pension benefit and is adisincentive to continue working. Here’s an e...
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Teachers Free Report: 3 Little Known Issues That Can Make A Big Difference

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Attention teachers who are worried about your financial choices and want to take charge today for a better choices today for a secure retirement tomorrow. Read this free report and discover secrets to help you build stability and predictability into your future. By a 20 year veteran in the financial services industry.

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Teachers Free Report: 3 Little Known Issues That Can Make A Big Difference

  1. 1. TEACHERS FREE REPORT 3 Little-Known Issues that can make a Big Difference By Alice Howe CFP® www.teachersretirewell.com1. YOUR ANNUAL SOCIAL SECURITY STATEMENT ESTIMATEDBENEFIT MAY NOT BE ACCURATE.Due to the Social Security Windfall Elimination Provision (WEP): Teachers’ SocialSecurity benefits are often less than the amount indicated on the Social SecurityStatement received annually.Social Security benefits are intended to replace only a percentage of a worker’s pre-retirement earnings. The way Social Security benefit amounts are figured, lower-paid workers get a larger return for their Social Security withholdings than higher-paid workers. For example, lower-paid workers receive a Social Security benefitthat averages 55 percent of their pre-retirement earnings. Conversely, the averagerate for higher-paid workers is about 25 percent.Prior to 1983, people who worked mainly in a job not covered by Social Securityhad their Social Security benefits calculated as if they were long-term, lower-paidworkers. They had the advantage of receiving a Social Security benefitrepresenting a higher percentage of their earnings, plus a pension from a job wherethey did not pay Social Security taxes. Congress passed the Windfall EliminationProvision to treat higher-paid workers with significant pension benefits generatedfrom income not covered by Social Security and secondary income covered bySocial Security as higher-paid workers.The classic example is a full-time, career teacher that provides private tutoringsubject to Self-Employment taxes and/or has a summer job subject to SocialSecurity withholding. When the Social Security Administration prepares annualstatements they cannot determine whether WEP applies. The earnings are treatedas if earned by a long-term, lower-paid worker and the estimated benefit iscalculated accordingly. If in reality WEP does apply, this can lead to a surprise atbenefit application time.So how do you know if your Social Security benefit will be less than indicated onyour statement? Use the link to the 2009 WEP Electronic Fact Sheet is providedbelow. The Fact Sheet will guide you through the process of determining if WEPapplies to you and the percentage that your Social Security benefit will be reduced.http://www.socialsecurity.gov/pubs/10045.html#amount © Your Financial Watchdog LLC
  2. 2. Make note of the WEP exceptions. The benefit reduction does not apply to all SocialSecurity benefit categories. Two of the more commonly applied exceptions are forwidows and persons receiving a small pension. Surviving spouses expecting toreceive their spouse’s WEP adjusted living benefit, as a survivor benefit will get apleasant surprise.They will receive their spouse’s living benefit unadjusted for WEP because WEP doesnot apply to survivor benefits. There is also a limitation that your Social Securitybenefit cannot be reduced by more than 50% of your pension to protect those onlyreceiving a small pension based upon their earnings not covered by Social Security.For more information on WEP refer to the WEP Electronic Fact Sheet and the otherextensive resources available on the Social Security Administration website.2. WHEN MIGHT ELECTNG A PARTIAL LUMP SUM OPTION FROMYOUR STATE TEACHER RETIREMENT PLAN MAKE SENSE?Probably never, if the entire amount of the state teacher retirement plan’s monthlybenefit is needed to satisfy income needs immediately upon retirement. Example: A 62-year old teacher and his spouse of the same age have the option of a 100% survivor annuity monthly benefit of $3,336.67 or 100% survivor annuity monthly benefit $3,008.68 plus a $45,080.04 lump sum. Difference Lump Sum Annual Lump Sum Monthly Benefit $Monthly/$Annually Distribution Rate $ -0- $3,336.67 $45,080.04 $3,008.68 $327.99/$3,935.88 8.73%A $45,080.04 lump sum seems like a lot of money compared to a $327.99 monthlybenefit. Let’s review the value of $45,080.04 outside the state teacher retirementplan since we already know that it is worth $327.99 per month for life if it remainsin the plan.There are basically two options for the $45,080.04 lump sum. It can either be usedto purchase an insurance company guaranteed immediate annuity or invested. The insurance company annuity comparison is easy since we are comparing twomonthly benefits expressed in dollars. For an investment comparison, the stateteacher retirement plan distribution rate had to be calculated. If the lump sum isleft in the state teacher retirement plan, the monthly benefit increases by $327.99monthly which is $3,935.88 annually. Distribution rates are normally expressed inannual terms. $3,935.88 divided by the lump sum of $45,080.04 indicates an8.73% distribution rate. © Your Financial Watchdog LLC
  3. 3. A popular annuity website indicates that a $45,080.04 lump sum would purchase a$224 guaranteed 100% survivor annuity monthly benefit from an investment gradeinsurance company. It is clear that the $327.99 monthly benefit realized by leavingthe $45,080.04 lump sum in the state teacher retirement plan is the better option.Be sure to perform the analysis and verify that leaving the funds in the stateteacher retirement plan is the best option.Even though leaving the lump sum in the state teacher retirement plan is usuallythe best choice for generating maximum current income, the lump sum distributionoption can work for teachers that were confident that they would never needincome from their lump sum benefit and leaving an estate to their heirs wasimportant to them. In this case the lump sum could be rolled to an IRA andinvested. Although not ideal, if at some point in retirement, income is needed fromthe lump sum, it would be available and would only transfer to their heirs upondeath.If your welfare is your only concern, then I suggest the state teacher retirementplan annuity-only option. If you want to leave something behind and are extremelyconfident that you will not need income from the lump sum, then the annuityoption that includes a lump sum can be selected. The caveat is that a stateteacher retirement plan benefit option that includes a lump sum shouldonly be selected after painstaking consideration.3. Is Your State Teacher Retirement Plan On Your Side When ItComes To Early Retirement?You may be surprised to learn that the answer is “yes” for many state teacherretirement plans. First, let’s review the basics so that you can understand thisphenomenon.Many teachers retiring today are covered by defined benefit (DB) state teacherretirement plans. The distinguishing characteristic of DB plans is that a directrelationship between funding and benefits is not required. You have probably seenthe headlines about unfunded corporate and governmental entity pension liabilities.Unfunded pension obligations, and in the case of teachers, irregular retirementscenarios can result.Because of quirks inherent in state teacher retirement DB plans, retirement wealthis greatly influenced by retirement age. In many plans a teacher receives muchless total retirement benefit than her contemporaries that retire earlier.All state teacher retirement plans have the basic pull incentives typical of DB plans.Each additional year worked increases the annual pension benefit. Because theformulas are based upon years of service multiplied by a percentage factor and final © Your Financial Watchdog LLC
  4. 4. average pay (usually the last 3 or 5 years), the benefit increases dramatically in thelater stages of one’s career. Even though early retirement is attractive, incrementalpension gain realized from working one additional year is often difficult to resist.Let’s use the pension formula from our service credit purchase discussion andassume the teacher starts at age 25 with an initial salary of $25,000 and works for30 years with an average increase in pay of 2% per year. Annual Benefit = (years of service) x 2.2% x (final average salary)Based upon the above formula, a graph of the earned pension benefit would looklike this. Notice that the line gets steadily steeper as the years worked increase. Annual Pension Benefit $50,000 $40,000 Annual Benefit $30,000 $20,000 $10,000 $0 1 6 11 16 21 26 31 36 Years WorkedThe formula is straightforward. It is clear that for a typical career path, each yearworked results in an increase in annual benefit. As the years worked increases, thecurve also gradually gets steeper. This indicates that the incremental benefit fromworking an additional year increases at a rising rate.The chart above does not shed light on the total amount of benefit that can bereceived. It is natural to assume that there is a direct relationship between theannual benefit and total benefit that will be received during retirement. If theannual benefit increases, then it must follow that total benefit increases. Thismaximum point is also assumed not to be reached until normal retirement age.However neither assumption is true.For most plans there is a spike point that generally occurs while you are stillteaching. At this point, even though each additional year of work increases theannual benefit, the total expected benefit decreases. Since there is no actuarialrelationship between funding and benefits, the additional annual benefit is offset by © Your Financial Watchdog LLC
  5. 5. the reduction in the benefit of the foregone year of pension benefit and is adisincentive to continue working. Here’s an example using the formula:In this example, 25 years of work produced an annual benefit of $27,500 and 26years produced a benefit of $28,600. This is an annual increase of $1,100. Basedupon the foregone year benefit amount of $27,500, the retiree would have tocollect 25 years of benefits to break even. As a result, the pull to continue workingis waning.During the era of corporate downsizing, many companies offered their employeesearly retirement incentives. Pension benefit early retirement incentives increasedeither the retiree’s years of service or age. In many cases both factors wereincreased. Additional years of service increase benefits and the increased agemeans that the retiree collects the benefits sooner. For instance a 60 year-oldworker that receives a 5-year increase in both service years and age can begincollecting higher benefits 5 years sooner. In this case the benefit would beginimmediately instead of having to wait 5 years to attain the normal retirement ageof 65.Most state teacher retirement plans have built-in incentives that mimic thosedescribed above. The simplest requirement is that the regular retirement age islowered by simply attaining a specified number of years of service. A little morecomplex version is a two-factor rule that the regular retirement age can be loweredonce a teacher reaches a designated combination of age and years of service. Arule of 80 is common. Once age plus years of service equals 80, retirement age islowered.Once you pass the magic spike point that marks a dramatic increase in pensionbenefits, your pension wealth decreases. Even though the annual benefit continuesto increase with years of service, it is offset by the cost of your pensioncontributions and the pension benefit that you have foregone.The bottom line is that if you enjoy your job, continue teaching. Don’t quit doingwhat you love. However, if you are in your late forties or early fifties, burnt outand considering a career change, I encourage you to meet with a pensionrepresentative or engage a financial planner to help you analyze your alternatives.You may be pleasantly surprised to find that your state teacher retirement planmay not penalize you for retiring early or changing careers. In fact, it may be toyour advantage. Discover more great e-resources for teachers at: www.teachersretirewell.com and please share this with a fellow teacher. Thank you! © Your Financial Watchdog LLC

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