NARFE expert: How to improve FERS, CSRS, and Social Security

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Nathan Abse interviews John Hatton, an expert on retirement and VP for Policy and Programs with the federal employee advocacy org National Active and Retired Federal Employees (NARFE)—focusing on the problem of inflation.

Inflation clocked in at 8.2% overall for September in the U.S., according to the Bureau of Labor Statistics—only barely lower than August’s 8.3%, marking yet another datapoint of concern for federal retirees. In this issue, we continue to explore the strengths and weaknesses of safeguards against the worst effects of inflation on retirees, especially cost-of-living adjustment formulas (COLAs) long enshrined in law and applied to Social Security, CSRS and FERS. A key issue, unlikely to change anytime soon, is that retired feds covered under the newer Federal Employees Retirement System (FERS) will get a full percentage point less in their COLA than their counterparts under the older Civil Service Retirement System (CSRS). On this and related issues, Nathan Abse interviews John Hatton, an expert on retirement and VP for Policy and Programs with the powerful National Active and Retired Federal Employees Association (NARFE). Hatton studied industrial relations at Cornell,  law at New York University, worked as a private-sector attorney—followed by years on the Senate Subcommittee on Oversight of Government Management, the Federal Workforce and DC and, more recently, more than a decade at NARFE.

Q&A with John Hatton

Inflation is at over 8%, and NARFE is watching COLAs closely. Key issue: In the new COLA, the largest in decades, FERS folks will get one full percentage point less than CSRS recipients—why?

Hatton: Good question. It’s because that difference is written into the law. And even though it looks unequal, that wasn’t the aim. When Congress created FERS, they were aiming to make the value—the total value of retirement received by FERS recipients—equivalent to that of CSRS participants. But though that was a simple aim, at the time there were assumptions about what an “equivalent” value actually meant. The fact is that, from the start, “equivalence” for the new system would be complicated, meaning something that changes for different people—because FERS as a retirement program relies on and includes eligibility for Social Security, and feds paying into that system too. Also in play, the FERS program also is coupled with the Thrift Savings Plan (TSP)—with its automatic contributions and matching employer contributions. The point is, the aim of creating FERS was to produce a new system with overall budgetary balance and value for retirees, but from the start there have been problems with it.

Right, like the cold fact is FERS recipients receive the exact same COLA as CSRS folks, in their federal retirement, only in years where inflation is 2% or less—as measured in the CPI-W—right? If inflation is higher, as it is now, FERS recipients get less. Doesn’t seem fair, right?

Hatton: And it isn’t, from our point of view. At NARFE we believe that this particular element of FERS—the reduced COLA for FERS under those circumstances—fails to live up to the intent of the policy of providing COLAs. The whole point of a COLA is to make sure that annuities for retirees keep up with inflation. The FERS program should have been better designed to take that inflation risk off of you, the annuitant. So, whatever balance the designers of the FERS program tried to strike here, on COLAs the outcome was not what they should have done.

And that’s the concern your and other fed advocate organizations are airing about the different COLAs for FERS and CSRS, right? But, to play Devil’s advocate here, on the other hand some experts say the differential is “fair”—properly accounting for matching contributions to TSP from agencies? Doesn’t this make FERS feds more like employees of corporations that pay into a company 401(k)s—they get that TSP boost over CSRS—doesn’t it make a lowered COLA ”fair”?

Hatton: Well, first of all, I want to address something you said there. If you bring up that comparison to the private sector, we have to address it. We have looked at the overall compensation for feds and acknowledge, as the data shows, the potential in the private sector for much greater financial reward for the same work. Overall, even if some federal employee benefits—like TSP—add value as you say, we need to keep in mind there are limits to the top level of compensation when working for the federal government.

Yes—and many feds know that data and argument, that feds begin at a disadvantage in compensation, especially at the higher end of the pay scale, compared to private sector, but  … ?

Hatton: Yes—and they’re right. So, when you compare federal jobs to private-sector jobs—as the Federal Salary Council (FSC) does—on job-to-job comparisons federal jobs are paid less. So when you take everything into account, including the higher compensation people can get in the private sector, we think ensuring a decent COLA versus inflation is what you need, to even start to balance things—even if you include other federal retirement, like TSP.

That answer might end my Devil’s-advocate objection for some readers—your implication that compared to the private sector many upper-level feds remain undercompensated and FERS and TSP only partly close the gap. But, again, what do you say to those who persist and say, “Look, the architects of FERS did ‘balance’ things in that FERS recipients might get 1% less in high inflation years, but they also get the value of TSP and even matching contributions, every year”?

Hatton: I would go back to my original argument. That is, FERS or any other annuity program should be designed to be fair and keep up with inflation—and it needs to keep up better with inflation for all employees, especially in a time of higher inflation, like right now. And, I would add that trying to improve FERS also does not preclude us from also trying to improve things that affect CSRS retirees. We need to better protect all of these annuitants from higher prices.

We will leave the inflation issue there, then. Next, what are some additional reforms you at NARFE would like to see for federal annuitants?

Hatton: We long have been pressing for several changes—notably, eliminating the Windfall Elimination Provision (WEP) and the Government Pension Offset (GPO), provisions that result in [lower retirement payments] for CSRS annuitants. There are a number of different elements, including legacy policy provisions, that we see as inequitable. Elements that are, in our view, inequitable or inappropriate towards what the policy should be—for both CSRS and FERS. We need our lawmakers to work together to fix these inequities.

Well, with complicated apples-and-oranges programs like FERS and CSRS, even the best law likely can’t get perfect “equivalence”—but NARFE thinks ending WEP and GPO would help?

Hatton: Right. And we need to be clear on who the WEP and GPO affect. First, WEP and GPO do not apply to FERS retirees. That's because if you’re a FERS retiree, you are also paying all the while into Social Security through payroll tax, right? Your work under FERS also counts towards your Social Security benefit—after all, you paid into it. To break it down, those under CSRS during their work years paid only into CSRS—they paid 7%. Those under FERS, they have paid into that system between 0.8% and 4.4% of salary, depending on when they started (the higher percentage has come more recently.) But, remember, meanwhile FERS people also paid into Social Security, so they have money in that program too. (I want to point out that CSRS is similar to some state and local pension systems, in which employees also do not pay into Social Security.) Another important point is that even if you are CSRS for your federal career, you might have paid some into Social Security, too, in other parts of your working life—whether that be primarily in the private sector, or it might be work for some state or local government with Social Security-covered employment. In the end, the problem here is that if you’re CSRS the Social Security retirement that you earned from separate work can be reduced due to the WEP, based on the fact that you're receiving a pension from CSRS. It’s a problem.

Your example brings me to the next question: For readers who aren’t yet feds—for example, a contractor or anyone else in the private sector considering federal employment, what will be their status at retirement regarding Social Security versus their federal pension money?

Hatton: The answer is pretty straightforward. Anyone coming in as a federal employee now will come in under FERS, and so they will continue to contribute to Social Security—same as a private-sector employee. That is, all of their work under FERS will also earn toward Social Security. They will contribute to both programs, as required. And so at retirement they will receive from both. Example: If you work, say, 10 years in the private sector, and then work 20 more years with the federal government under FERS, you'll get your FERS pension and you will have earned a full 30 years total of Social Security-covered earnings, with all of those 30 years used to compute your Social Security benefits. All you really need to remember is it’s just CSRS covered federal employment that doesn’t pay into Social Security—and that’s the program that triggers WEP/GPO. The “triggering factor” in lowering your Social Security is your CSRS pension and those years when you did non-Social Security covered work.

That’s clear, thank you. Just to clarify, for the prospective fed FERS is designed to be a lot like a private-sector 401(k), right?

Hatton: Right. It’s all part of a broader retirement. A FERS employee pays 6.2% in payroll taxes to Social Security, which will go to pay for their social security benefits. Meanwhile, they are also paying a contribution into the Civil Service Retirement and Disability Fund, and there is also an agency contribution into that. To repeat, that employee contribution ranges from 0.8% to—beginning with new hires from 2014 onward—4.4%. So, effectively you have two sets of “taxes” there—toward FERS and Social Security. Then, when you retire there's a system for the payout from your FERS retirement benefit and, separately, Social Security. And on top of that you will have TSP and you may have other savings.

Again, just to clarify the amount a FERS employee pays into Social Security is exactly the same as a private-sector employee—exactly the same F.I.C.A. tax?

Hatton: The same, yes. The way FERS-covered federal employees participate in Social Security is exactly the same as anyone in the private sector. Now, for any newer employees who might not know the system, I’ll note that the FERS annuity—compared to the CSRS annuity that came before it—is much smaller. That’s because unlike the CSRS the FERS annuity itself is not a comprehensive retirement plan. The FERS system was designed to be combined with your Social Security benefit and your TSP, which is a kind of equivalent of a 401(k). Together all three parts make up the FERS-covered employee’s retirement. Basically, Social Security and the FERS annuity provide two kinds of guaranteed income streams, and then on top of those you have your TSP savings which you control the investment balance of and, in retirement, can draw down as you need.

We get this question often: Is it almost always best to put as much of your earnings as possible into the TSP? Or, in your opinion, are there times when other retirement vehicles are better?

Hatton: I would just say this. Of course everyone is different, but the TSP is your federal employee version of 401(k). So, by putting earnings into the TSP, I mean—first, you get that automatic agency contribution, right? And then, second, beyond that you get matching contributions on your initial percentages of contributions, right? So, those are very powerful. I’d say you’ll at least want to take advantage and do that. It’s a good deal. And there are different ways to do this—you can even do a Roth TSP so you pay taxes up front and have no taxes as it pays out.

Returning to COLAs: What’s NARFE’s position? I know NARFE is very concerned about the official 8%-plus inflation—but does your org believe the COLA really covers increased costs for retirees?

Hatton: I think the answer depends on the situation of each individual retiree or family, to some degree, right? At NARFE we support a policy of having automatic cost of living adjustments tied to a consumer price index—one that’s determined and calculated by the Bureau of Labor Statistics. We support this current system. That’s been good. Under this system, we don't have to fight every year for a cost of living adjustment. Now, we do have two criticisms or concerns about the current automatic cost of living adjustments. First—an issue we’ve gone over—we don’t think it’s good that FERS retirees get a COLA that’s fully 1% less than CSRS when, like now, inflation is above 3%. A second concern I haven’t mentioned is COLAs are calculated using the consumer price index that measures inflation for urban Wage Earners and Clerical workers—called the CPI-W. But other price indices might be better. There is an experimental price index, called the “Consumer Price Index for the Elderly”—the CPI-E. And given that the COLA is designed to help seniors, it makes sense to us to measure prices that most affect seniors. The CPI-E takes into account higher spending on items like healthcare, which typically have gone up at a higher pace than the rest of inflation. Over time, the CPI-E would provide a slightly higher COLA bump—often around 0.2% to 0.3% more—each year. That’s small but significant, since that difference will compound significantly over a 20- or 30-year retirement. Most important to say is that, overall, NARFE supports a policy that reflects the real cost increases experienced by seniors.

Some say CSRS and old-fashioned defined benefit plans like it are better than FERS plus TSP, which like 401(k)s beginning in the 1980s permits unqualified people greater opportunities to make bad stock market decisions and diminish their retirement—what’s your opinion?

Hatton: I would just say—we at NARFE would say—that the question is settled on the move from CSRS to FERS. It happened, long ago. FERS has been an effort to balance having some guaranteed income through your annuity and your Social Security with an added ability to invest in the open market—through TSP—giving you access to market gain possibilities you wouldn't get in a straight pension system. I would say our biggest problem with federal retirement—with FERS—now is the big increase in required contributions by new hires. That big jump started in the early 2010s, and since then it has reduced the net value of this key annuity, because employees must put more salary toward it to gain its benefit. CBO has looked at this criticism, and confirms it—it takes more years before your FERS annuity achieves a net positive value. Still, I will say I think the approach of FERS—having Social Security, the FERS annuity, and TSP together for retirement—makes sense, and I think people are generally happy with it.

Last question: Where is Congress in making progress toward getting rid of WEP and GPO?

Hatton: The last move was in this Congress, in a mini-markup of the Social Security Fairness Act containing a proposed repeal of both the WEP and GPO. However, that committee advanced the bill without recommendation—and lawmakers haven’t really arrived at an agreement on it. Billions of dollars are in play here. For these reasons among others, what happens next on WEP/GPO is still uncertain. But it can happen, and we ask our members, and all federal employees and retirees, to contact their lawmakers to do something about WEP and GPO.

NEXT STORY: Reports: Trump-NARA conflict

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