I am aware that after I put in ten years’ federal civilian creditable service and then retire, my FERS annuity will be reduced monthly by 10% for the surviving spouse 50% annuity and that FEHB premiums will be deducted as well. My questions: Are the FEHB premiums in retirement deductible? Is the 10% deduction taxable? What is the monthly amount I should use as the gross received, prior to Simplified Method Deduction? Is it the total annuity? The annuity minus FEHB AND the 10% deduction? etc. Thanks.
Charles asks us four questions but each is so good that we need to unpack them a little so that we do not miss one single, important question.
When are you eligible to retire from Federal Services?
As a federal employee under the Federal Employee Retirement System (FERS) you are eligible to retire with an immediate, unreduced benefit when you achieve on of the following milestones:
You can retire under FERS when you are:
- Age 62 with 5 years of creditable service,
- Age 60 with 20 years of creditable service,
- Minimum Retirement Age (MRA) with 30 years of creditable service.
An immediate unreduced annuity means that when you retire you receive your full pension (OPM likes to call this an annuity) and a comprehensive list of federal benefits like continuing your Federal Employee Health Benefits in retirement.
Not all retirees from FERS are eligible to maintain their Federal Employee Health Benefits (FEHB) in retirement. You need to understand the rules of eligibility to maintain your FEHB in retirement.
To maintain your FEHB in retirement you must retire with an immediate unreduced annuity (pension).
You can retire under FERS early when you reach,
Minimum Retirement Age and 10 years of creditable service but you will have a reduced benefit structure.
The penalties for retiring from FERS under MRA + 10 years of creditable service is that you will receive a 5% reduction in your benefits for every single year that you are younger than age 62 when you retire.
If Charles is, in this example, age 57 and wants to retire under the MRA + 10 years of creditable service rule the penalties would be,
| Age |
Penalty |
| 57 |
5% |
| 58 |
5% |
| 59 |
5% |
| 60 |
5% |
| 61 |
5% |
| Charle’s Pension is Reduced by |
25% Total
|
This is a permanent reduction in Charle’s pension. There are other options available if Charles wants to leave federal service that he could explore that would not cost him a penalized retirement benefit such as a deferred or postponed retirement.
Now let’s take Charle’s second question about what FERS employees pay in taxes in retirement.
Taxes for FERS in Retirement
One of the areas that we work furiously to pay attention to is our federal employee client’s long term tax plan. We want each of our clients to have a 5 to 10 years tax plan worked in their financial plan.
The reason that tax planning is so critical to our federal employee clients is that oftentimes they forget how much of their benefits in retirement are going to be taxable! If you subscribe to the myth that, “my taxes will be less in retirement” you need to ensure you’re talking with your financial planner about whether or not this is factual.
If your financial advisor understands your federal benefits, they will already be talking with you about the long term tax plan to implement.
Pre-Tax Deductions from your FERS Pension could include,
Any penalties (such as taking a reduced pension under the FERS MRA + 10 years of creditable service rules) is pretax.
Your survivor benefits that you leave a spouse are deducted pre-tax.
Post-Tax Deductions from your FERS Pension could include,
- Federal Employee Health Insurance Benefits (FEHB)
- Federal Employee Group Life Insurance (FEGLI)
- Federal Income Taxes Withheld
FEHB is not tax deductible in retirement. This is one of the most critical components of tax planning that we work with our federal employee clients to understand. While you were working, you and your employer shared the cost of the FEHB premiums. During your working years, FEHB was deducted from your tax on a pre-tax basis. When you retire from federal services your health insurance premiums are no longer deducted on a pre-tax basis. Rather, they are paid on a post tax basis.
Understanding the importance of gross vs net income in retirement will be one of the strongest factors in determining your retirement eligibility. Cash flow is the heartbeat of retirement.
If you have great questions like Charles’ please email us for a chance to be include in FERS Federal Fact Check articles.
