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A recent survey conducted by Schwab Workplace Financial Services® indicated that the biggest fear for workers who are approaching retirement is inflation; no surprise there. After inflation, which was cited by 45% of the survey participants, were keeping up with monthly bills (35%) and stock market volatility (33%).
Should federal employees be as concerned about inflation as those in the survey? No. I’m not suggesting that inflation is not a problem, it’s just that inflation is not as big a problem for a federal retiree than it is for your average private sector retiree. Why? Because our FERS annuity is indexed for inflation, as is the Social Security benefit we will be receiving. Most private sector employees do not have annuities like FERS and for many those that do have annuities (also called pensions), the payments are not indexed for inflation.
The FERS cost-of-living-adjustment (COLA) is adjusted based on the change in the Consumer Price Index (CPI) from the third quarter of one year to the third quarter of the next. Social Security announces the COLA amount in mid-October, and it is not out of the realm of possibility that the CPI could be up 9% from where it was at the end of September in 2021. The FERS COLA trails the CPI by 1% in years when inflation is 3% or higher, so FERS retirees are likely to get a COLA of 8% or more. The Social Security COLA fully tracks the CPI.
FERS retirees will have three major sources of income: 1) their FERS annuity; 2) Social Security; and 3) the Thrift Savings plan. Two of these three sources are adjusted for inflation. All private sector retirees will have Social Security and about half of them will have a defined contribution plan that is similar to the TSP; so, a higher proportion of their retirement income will suffer from inflation.
Back to the Schwab survey. A third of survey participants were unsure as to how long their savings will last. An earlier survey by American Advisors Group® found that 29% of participants believed that they would run out of money before they run out of time (though they will still have Social Security).
You also won’t run out of money from Social Security, and you won’t run out of money from your FERS pension either. What can you do to ensure that you won’t run out of money from your TSP and that you will be able to have your TSP withdrawals keep up with inflation? Here are some thoughts.
• While you’re still working, increase your TSP contributions so that you’ll have more money at the time of retirement. Remember that in the year in which you turn age 50, the amount that you can contribute increases.
• In order to have your withdrawals keep pace with inflation, start withdrawing a certain percentage of your account each year (many financial planners recommend beginning at 4%) and annually increase your withdrawals by the rate of inflation. Studies show that this strategy (called the 4% rule) gives you a high possibility of not running out of money over your retirement.
• If you’re going to use your TSP for a stream of income, consider choosing installment payments based on the IRS life expectancy table. The TSP will re-calculate your payment each year. Because this re-calculation is based on your year-end balance (e.g., the 12/31/2021 balance was used to calculate the 2022 installment payments, etc.) the amount you withdraw will be adjusted up in a “good” year and “down” in a bad year.
• Remember, this too shall pass. Yes, we have had high inflation in the past and monetary policy has eventually tamed it. Consider that inflation has averaged 3% per year over the last century. We may have a period of high inflation, but it will not go on forever. Don’t panic.
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