TRS vs. ORP – U Texas Retirement Options
New full time faculty at University of Texas institutions are offered a VERY IMPORTANT choice upon starting their job. They have to choose which Mandatory Retirement option they want to choose: TRS (Teachers Retirement Service) or ORP (Optional Retirement Program).
By default, they are enrolled in TRS and have 90 days to make a one-time irrevocable decision to choose ORP.
This means if you choose ORP, there’s no going back (in general; there are some exceptions).
These are my thoughts based on my experiences and understanding. I had TRS while in training (fellowship) for 1 year; I didn’t vest and rolled it into my IRA after leaving. ORP was not an option for trainees. Kate joined UT faculty after training, and we have not explored TRS since. As such, some things may have changed. Also, some details (e.g. employer match percentage) may be different from institution to institution.
(Please do not read this as financial advice; please verify any information and consult with your financial professionals prior to making any decisions).
Basics
TRS is a 401(a) pension (defined benefit plan), it pays you a defined monthly amount once you retire. It will continue to pay monthly until you (+- your spouse) are no longer living, like social security. When something pays you on a regular basis until you die, that is considered an “annuity.”
ORP is a 403(b) (defined contribution plan) where the amount invested is defined but the end result is not. You get to invest your money using the investment options available to you (like a 401(k)). When you retire you can keep it invested or roll it into an IRA. You can choose to annuitize it if you like (exchange a portion or all of it into a DIY pension that pays you an amount on a regular basis).
Paula Pant (Afford Anything podcast) and Joe Saul-Sehy (Stacking Benjamins podcast) did a great podcast episode explaining “Everything you never wanted to know about annuities.”
| TRS | ORP | Winner | |||
|---|---|---|---|---|---|
| Name | Teachers Retirement Service | Optional Retirement Program | |||
| Type of Plan | Defined Benefit Plan (Pension) | Defined Contribution Program (not a pension) | Depends | ||
| IRS Account Code | 401(a) | 403(b) | - | ||
| Can I have both? | No | No | - | ||
| Can I have neither? | No | No | - | ||
| Can I choose my own investments? | No | Yes, like a 401(k) | ORP if you can follow a simple investment plan | ||
| Can choose how much goes in? | No | No | tie | ||
| How does employee contribution go in? | With monthly paycheck automatically | With monthly paycheck automatically | tie | ||
| At risk of solvency of government / pension? | Yes | No | ORP (++) | ||
| Risk that the defined benefit can change? | Yes | No | ORP (++) | ||
| Subject to market risk? | Yes | Yes, but more so | TRS (++) | ||
| Subject to emotional/behavioral risk of investor selection by employee? | No | Yes | TRS (+) | ||
| Can control risk / benefit of investments based on personal goals? | No | Yes | ORP (++) | ||
| Can access for early retirement (age <55)? | No (vested pension benefit not available until at least age 55) | Yes | ORP (++) | ||
| Has life insurance benefit? | Yes | No | TRS (++) | ||
| Has long term disability insurance benefit? | Yes | No | TRS (++) | ||
| Affects social security income? | No | No | tie | ||
| Retirement benefit | Depends if vested or not vested and which payout option taken | The value of your account is based on contributions and performance of the investments (like a 401k) | Depends | ||
| Employee contribution | 7.2% | 6.65% | TRS (+) | ||
| Employee contribution taxation | pre-tax | pre-tax | tie money is tax deferred; paid when withdrawn | ||
| Employer contribution | 6.8% | 8.5% | ORP (++++) this is a 1.7% raise | ||
| Employer contribution taxation | pre-tax | pre-tax | tie | ||
| Income threshold when employee and employer contributions discontinue | IRS Determined amount 2016: $270,000 2017: $270,000 2018: $275,000 2019: TBD | IRS Determined amount 2016: $270,000 2017: $270,000 2018: $275,000 2019: TBD | tie | ||
| Maximum employee contribution (2018) | $19,800 | $18,287.50 | TRS (+) | ||
| Maximum employer contribution (2018) | $18,700 | $23,375 | ORP (++++) extra $4675 of income in 2018! And it goes up annually as the IRS limit goes up | ||
| Maximum total contribution (2018) | $38,500 | $41,662.50 | TRS (+) | ||
| Maximum in all U Texas Retirement Accounts (including TSA 403b and DCP 457b for employees with wages $275k+) | $75,500 | $73,500 | ORP (+) | ||
| Vesting period for employee contribution | immediate vesting | immediate vesting | tie | ||
| Vesting period for employer contribution | 100% Is vested on 5 year anniversary; 0% vested otherwise. All or nothing for 5 years | 0% vested until 1 year anniversary; 100% vested 1 day following | ORP (+++++) | ||
| Cash value of account before vesting | Employee contributions + 2% annualized interest | Actual value of investments from employee contributions | ORP (+++) | ||
| Cash value of account after vesting | Employee contributions + 2% annualized interest + employer contributions | Actual value of investments from both employee & employer contributions | ORP (+++) | ||
| Options if leave job before vesting | (1) withdraw and pay tax at marginal tax rate (as income) (2) rollover cash value into other qualified plan (e.g. IRA) (3) leave there to grow at 2% per year for up to 5 more years; must be withdrawn by year 7 *no pension benefit; employer portion is lost | (1) leave there invested (2) roll into another qualified plan Employer portion is lost | ORP (++) | ||
| Options if leave job after vesting before retiring | (1) rollover cash value into other qualified plan (e.g. IRA) (2) leave there for employee cash balance to grow at 2% per year (3) Wait until age 55 or older to take pension benefit | (1) leave there invested (2) roll into another qualified plan Employer portion is retained | ORP (+++); see below (defined benefit at retirement) | ||
| Lump Sum withdrawal option available at retirement | NO (not if vested) | YES (all can be rolled into an IRA) | ORP (+++) | ||
| Options when retiring (assuming TRS is vested) | (1) Receive monthly defined benefit - can have joint/spousal benefit (2) Partial Lump sum option - 1 to 3 years of distributions as lump sum(s) and reduced monthly benefit (3) Minimum years of guaranteed payment no longer available | (1) leave money all invested (2) withdraw a portion regularly to pay for expenses (e.g. 3-4% per year) (3) Convert a portion (or all) into an annuity for regular 'guaranteed' payments* *U Texas has TIAA-CREF with some of the best annuity options available anywhere | ORP (++). TRS pension is a good pension but has limited distributions. Partial lump sum only allows you to accelerate 3 years of retirement distributions, the rest remains inside the pension. | ||
| Can pass on to heirs (children) | No, pension annuity is not inheritable | Yes, all retirement account balances go to beneficiary upon death | ORP (++++) | ||
| Defined benefit at retirement | if full retirement age (e.g. age 65 or if age + years of service = 80) standard annual benefit = average of 5 years of highest salary x # years of service x 2.3% retirement before full retirement age, partial lump-sum, and joint/spousal benefits reduce the monthly benefit | No defined benefit based on how much of an annuity you feel you need/want at that time the ORP can be invested in an annuity to get a defined benefit. | ORP (+++) ORP allows you to choose how much you annuitize (if any); it is unlikely that a high earner will *need* 69% of income (after 30 years service) annually to cover basic expenses. By using ORP, a larger nest egg can be grown which will allow for more flexibility of spending in retirement | ||
| Example: $275k income, 30 years service, retire at age 65 | $275,000 x 30 x 2.3% = $275,000 x 69% = $189,750/year | WIth 6% investment returns, person will have $3.3M at age 65. Could withdraw $100k per year (3% withdrawal) or $132k per year (4% withdrawal), increasing annually with inflation with full inheritability of balance (likely millions of dollars). Or, it could all be annuitized at 6% ($200k/year) or 7% ($230k/year). If the investment only averaged a 5% return and was annuitized at 7%, it would still pay out $194k/year | ORP (++) as long as investor can get 5% returns on the investment, he/she would likely be able to annuitize the balance outside of TRS and still exceed the TRS payout | ||
| Cost of Living Adjustment (COLA) | TRS may give a cost-of-living adjustment to annuity recipients in certain years if funding levels are met; there are no guaranteed COLA's | No | ORP (+) - edge to ORP because there is no guaranteed COLA on the TRS Pension; this means the value of the pension decreases over time | ||
| Taxation | Withdrawals taxed as ordinary income | Withdrawals taxed as ordinary income; rollovers to other pre-tax accounts (e.g. IRA) not taxed until withdrawn | ORP (++); withdrawals from the ORP are under your control (with exception of Required Minimum Distributions "RMD's" after age 70). This allows you to have more control over your taxation |
My thoughts
TRS is a great option for lower and middle income people to make sure they have enough money to sustain retirement.
My father was an employee for the City of Detroit, and during the city bankruptcy, the retiree pensions were at risk. My parents invested not counting on the pension, but having it is a nice extra source of cash flow. Luckily, they still are receiving a pension benefit, though not at what it was initially “defined” to be. With social security, 1 pension, 2 IRA’s and 2 rental properties, they have a more comfortable lifestyle now than they did when they were working, raising kids, and trying to put away money for retirement.
For the high income professional, however, when given the option between ORP and TRS, I would only choose TRS only if you meet 1 of the following criteria
- You are unable to invest your own money in a set of low cost index funds and follow a simple plan. This can simply be to choose a target date retirement fund and stick with it (although U Texas doesn’t have any very-low-cost index target date funds).
- You don’t trust yourself not to spend it in retirement
- You know you do not care about passing any inheritance to offspring, relatives, etc. (spouse not included)
States and government pensions are at risk over the next 30 years, especially if they promised other retirees benefits they can’t keep. I personally trust myself with investing my money more than I trust a government pension.
A high income person should be filling up the TSA 403(b) and the DCP 457(b) also. In this case, you’re already managing investments. It’s not much harder to have just 1 more account. If you need to pay a fiduciary fee-only advisor to help you out, that can be money well worth it to keep off the golden handcuffs of a pension.
Having an annuity can be great for cash flow and to mitigate one of the top risks of retirement: LONGEVITY RISK (out-living your assets).
But you only need an annuity to cover your essentials. Every dollar that gets put into an annuity is an invested dollar that you no longer have access to. Having liquidity (accessibility to money) is very valuable for isolated spending shocks of retirement (e.g. big health care expense, paying for a child/grandchild to go to college, etc.).
I made a long list above, but really the key things to me that really matter are
- VESTING
- ORP vests in 1 year + 1 day rather than 5 years (5 years is a long time for your first job; about 1/3 of physicians do not stay at their first job!)
- MATCH
- 8.5% match with ORP vs. 6.8% match with TRS is a 1.7% raise with ORP!
- LUMP SUM
- TRS at retirement only allows an annuity or partial lump sum annuity (PLSO). It does NOT allow lump sum withdrawals/rollovers of the entire vested equivalent cash value of the balance. If I want to be able to roll the funds into an IRA to invest on my own (e.g. buy an entire apartment building inside of a self-directed IRA), I can’t do that
- ANNUITIZATION of ORP money
- ORP funds can be annuitized easily with good options given the access to TIAA-CREF; at retirement, you can annuitize only what you need to, if any, choosing to annuitize a portion (to cover essentials) and roll the remainder to an IRA. In the IRA, I can invest the remaining in equities, rental properties, etc, however I decide. You may realize that your retirement accounts are so big, e.g. $10M between you and your spouse, that even at a 3% fixed or variable withdrawal rate ($300k per year pre-tax) the withdrawal covers all your expenses, you do not really need any annuity at all to minimize longevity risk.
SUMMARY
ORP for the win.
If you need help with a basic investment portfolio, get the advice, but don’t choose the pension just because you’re unwilling to do that, you’re taking a 1.7% pay cut!