Blog — Sisters for Financial Independence

Teachers are one of the single largest class of workers with a bachelor’s degree or higher, yet existing systems shortchange teachers when it comes to retirement planning and security.

According to a survey by EdWeek.org, more teachers are thinking about leaving now than before the pandemic. Younger teachers are more likely to leave the profession which means many of these teachers will not qualify for a pension. If they have only been relying on the prospect of a pension and not investing in alternative retirement plans, they’ll have some catching up to do.

In this post, we will look at why a teacher’s pension may not be enough and what investment accounts teachers can self-fund to ensure they have enough in retirement.

The state of Teachers & Retirement. #RetirementForTeachers - a series on sistersforfi.com

The Pension

A pension is the most common way teachers save for retirement. Pensions are what’s considered a defined benefit plan in that it uses a formula to determine how much you will get as a benefit. If you are a young teacher, it’s important to understand what this formula entails so that you can plan accordingly.

Watch this explainer video to understand more about how pensions work and how it can impact your financial security.

There are 5 things you’ll want to be aware of when it comes to pensions:

Most pension plans greatly favor those who have put the greatest number of years. This means teachers who have been working for over 30 years or more will receive a significant pension payout when the time comes. As a new teacher, it’s important to know what your vesting period will be which is the number of years you’ll have to put in in order to be even eligible for the pension. Note that this normally means you’ll need to serve an X number of years in order for the pension to kick in, and you’ll need to know the age at which you can withdraw from it.
Pension plans are not portable. If you decide to move states, unfortunately, you cannot take your credits with you. You will receive your contributions back, but it means you may have to restart the pension time clock again and you’ve lost the opportunity to grow that money in another investment. You may still get a pension as long as you’ve hit the vesting period, but it won’t be as much as if you had put it more time.
There are around 15 states, DC and some school districts that have opted out of the national Social Security in favor of their own state pension plans or what’s also known as STRS “State Teacher Retirement System.” Teachers from these states and districts do not pay Social Security taxes or receive Social Security benefits. The pension acts as their Social security. The big difference though with STRS and Social Security is that STRS has been set up to benefit those who make teaching their life's work. So in order to get the most benefit from the STRS, you’ll need to have worked in the system for over 30 years.
Some pension plans have been mismanaged over time which means it costs more to manage the pension fund. This mismanagement disproportionately affects young and new teachers. When you review your pension fund formula, you’ll find that some plans now have tiers depending on when you joined the pension system which affects how much you’ll get in the end.
Today’s reality is that half of all new teachers will not stay long enough to qualify for a pension and for those who will receive pensions, many will receive less than their contributions. While pensions were a guarantee many years ago, a few years from now, many of the pension plans payouts will not be enough to meet the standard cost of living for many people.

You can learn more about the state of pensions, Social Security, and other issues with the system at teacherpensions.org

It’s important to understand how your pension is calculated. See this post to learn how to calculate the value of your pension.

Enroll in this self-paced Investing 101 Class. Get 15% off using code BACK2SCHOOL. Expires September 30, 2021.

Supplementing Your Pension

Educators have unique retirement options that can supplement the defined pension, provide tax advantages and even opportunities for early withdrawal without penalties if you are looking to retire early. The first thing you’ll want to do is reach out to your Benefits Administrator to learn if any of these options are available to you.

The 403b

The 403b is a tax-deferred retirement savings account provided by public educational institutions, certain non-profits, and churches. These act very similar to a 401k for employees of private companies. With a 403b, you contribute pre-tax money from your paycheck into the plan. Doing so allows you to reduce your taxable income today. The pre-tax contributions and their investment earnings will not be taxed until you withdraw the money, typically after you retire at the age of 59½ years old. Generally, there is a 10% federal tax penalty on withdrawals you take before age 59½ years old, but there are a number of exceptions.

The 457b

The 457b works similarly to the 403b. It’s normally offered to state and government employees. There are two big advantages when it comes to the 457b plan:

It allows participants to double their retirement plan contributions if they are within three years of normal retirement age.
Your 457(b) benefits become available when you no longer work for the employer providing the 457(b) plan which means you can withdraw the money before 59½ years old without any penalities. For those looking to retire early, this can help bridge the gap before a pension or access to another retirement source kicks in.

The 403b AND 457b

403b plans and 457b plans typically offer two types of investment products – annuities and mutual funds. You’ll need to carefully review the investments in these plans and choose ones accordingly.

It’s best to ask yourself these questions when selecting your investments:

What fees will I pay?
Will I have to pay any penalties if I change my investment choices? If so, how much?
Does the vendor make more money for selling me one product over another?

Fees can be a big factor eating your potential investment growth so staying close to low-cost index funds can mean more money growing for you.

Some employers may offer both 403(b) and 457(b) plans, and allow you to contribute to both plans. In 2021, you can contribute up to $19,500 to each plan if you are under age 50 (up to $39,000 total this year). You can contribute up to $26,000 to each plan if you are age 50 or older (up to $52,000 total this year). This can be a great way to super save your way to retirement.

Employee contributions for both plans are possible, but very rare.

You can find an in-depth breakdown of the 403b plan vs. the 457b plan at EducatorFi.com.

The Individual Retirement Account (IRA)

Your other investment account option is the IRA. This investment vehicle sits outside of your employer. This can be a great option for those just starting out as the contribution limits are small - $6000 for 2021. An IRA will have more investment options than a 403(b) which allows you access to low-cost index funds that can grow early in your career. An IRA is also a good option if you are not receiving a match from your employer.

Which account should you choose to supplement your pension? The answer depends. This chart by EducatorFI may help.

Conclusion

Teachers deserve retirement financial security, unfortunately, many young teachers believe their low salary is OK as long as they are compensated years from now in retirement. As we have learned, the current teacher retirement system disadvantages young and mobile teachers so it is imperative for young teachers to understand their pension and invest outside of it. Just because an older teacher says her pension will be enough for her, it may be not enough for you.