Federal
Pensions in Divorce – Value for Offset or Divide?
By Tim Voit
The family law attorney confronted with a federal
pension, within the context of divorce, should pay careful attention to
the difference, not only between the two primary federal pensions, but
to the differences between the federal pensions and traditional
"non-governmental" pension plans as well.
The two plans discussed here are the Federal Employees Retirement
System (FERS) and Civil Service Retirement System (CSRS). Emphasis is
placed on the CSRS plan, since it is often the most misunderstood Plan.
It is also representative of many municipal plans, which provide
retirement benefits for employees of local government institutions. The
difference between FERS/CSRS and traditional non-governmental plans
could mean tens of thousands of dollars, in terms of offsetting marital
property values in divorce, or result in valuable benefits lost with
regard to dividing these plans pursuant to court ordered division.
Although slight changes in the verbiage of court
orders dividing federal pensions can have profound effects for either
party, it is the attorney representing the non-employee spouse that
incurs more liability. This
article reveals some of the traps encountered with federal pensions in
divorce but also discuss some pitfalls for the plan participant spouse
as well.
In many cases, we have seen settlements between
divorcing parties mishandled because it was assumed that the employee
contributions into these defined benefit plans represented the lump-sum
present value, or that dividing these plans pursuant to a Court Order
was similar to dividing them by way of a Qualified Domestic Relations
Order (QDRO). Worse yet, we have seen cases where the parties, or their
attorneys, assumed that certain municipal retirement plans, those not
covered under a state retirement system, could be divided by a QDRO
when, in fact, some of the municipal plans cannot be divided by any type
of Court Order for purposes of property division.
Needless to say, these cases had to be reopened or the Settlement
Agreements amended.
Unfortunately, this is not as rare as one would hope.
Although this article emphasizes issues relating to
the valuing and dividing of Federal pension plans, it is worth
suggesting that should a party to a divorce be a participant in a
municipal plan, the attorney should then contact the plan to find out
more about distribution options, especially with regard to treatment of
a non-participant spouse, long before the divorce is granted.
Discovery, analysis, and evaluation of benefit options should
thoroughly be completed before the negotiation and/or drafting of the
Court Order commences.
Because discovery into the value of plan benefits
or the determination of an accrued monthly benefit is often difficult,
we have provided some suggestions as to where to start obtaining
information on a participant spouse with regard to FERS, CSRS, and the
Thrift Savings Plan. First,
if the participant spouse is not yet retired, the Office of Personnel
Management will not yet have the plan participant's information.
Therefore, one should consult the personnel department of the
employing agency or agency's retirement counselor for retirement
information. If the
participant spouse is retired, the general telephone number for
inquiries is toll-free 1-888-267-6738.
Planning Tip:
You may hear from your client that their spouse only has the
Thrift Savings Plan. An
individual cannot waive participation in either FERS or CSRS, therefore,
if only provided with a TSP Account Statement inquire about the pension
and obtain a statement of benefits regarding the pension plan.
Defined benefit plans are often overlooked because
unlike defined contribution plans they do not provide account statements
quarterly since the pension benefit is not based on any account balance.
Although it is possible in the private sector to only participate
in a 401k or profit sharing plan, with no defined benefit pension plan,
this is not true in the public sector.
If the federal employee spouse has a TSP they will also have a
separate pension benefit, paid monthly at a particular retirement age
defined by the pension plan.
The same is true of most municipalities and their pension and
savings plans.
Following are brief discussions on the differences
in FERS and CSRS; the approaches to valuing the FERS & CSRS plans -
relative to traditional non-governmental pensions; court ordered
divisions; as well as other benefit considerations, or rights, that a
non-employee spouse may have.
Because of the many issues involved, and the vast differences
between federal pensions and traditional private plans, this article has
been divided into two parts to aid attorneys in both the valuation
issues and dividing pension benefits pursuant to a Court Order.
For starters, both the FERS and CSRS plans are
administered by the same plan administrator in Washington, D.C., the
Office of Personnel Management (OPM).
When attempting discovery of information relating to the pension
benefits of the plan participant spouse, a distinction is drawn between
whether or not the party is retired.
This was eluded to earlier.
If the party is not yet retired, information regarding the
participant's pension benefit, or income figures used in computing the
retirement benefit, can be obtained through the participant's employer
or employing entity. After
retirement, the information can be obtained from the Office of Personnel
Management in Washington, D.C.
With regard to actual CSRS or FERS court ordered divisions, they
are forwarded to the Court Order Division of the OPM, regardless of
whether or not the Plan benefits are in pay status (retired) or not.
Planning Tip:
OPM will not compute an accrued benefit, accrued as of a
particular date. Often they
will provide a “projected” pension benefit, typically used for
retirement planning purposes.
If you represent the employee spouse, request from the employer a
calculation of the accrued monthly pension benefit as though they
terminated employment as of the date of divorce or other date of
valuation. The accrued
benefit would then based on years of service, and earnings, up to the
date in question. You can
use the accrued benefit to determine the lump-sum present value of the
FERS or CSRS pension..
With regard to contributions made by the employee
into the pension plan, the unsuspecting attorney representing the
non-participant spouse is all too often willing to accept the employee
account balance, i.e. employee contributions, as the lump-sum value of
the Plan when, in actuality, the employee contributions are unrelated to
the monthly benefit the participant will receive at retirement.
Therefore, the employee contributions are not indicative of the present
value. In fact most,
if not nearly all, pension plans in the private accept no contributions
from the employee.
Employee contributions into federal pensions is not
the “value”. This
idea or concept is often presented by the plan participant or the plan
itself, and most notably prevalent when municipal pension plan
administrators provide information.
Keep in mind they are typically in the plan as well.
Often the unsuspecting attorney is given a benefit statement, or
something to the effect that employee contributions is “x” amount,
whereby this is in some way implying that the employee (only)
contributions represent the value.
Employee contributions into pension plans only exist to provide
for, in part, a small death benefit in the event a plan participant dies
unmarried, and/or to only partially offset the cost.
It is not the value, i.e., the FERS and CSRS plans are not 401(k)
savings plans.
As an illustration of this point, we observed a
case where an employee account balance, or contributions, totaled
approximately $50,000, yet their accrued monthly benefit, accrued as of
the date of separation, was roughly $2,500 per month at retirement, or
$30,000 annually. A rather
large and consistent rate of return would be required for the
contributions of $50,000 to fund $2,500 per month, $30,000 per year, for
the life expectancy of an individual, e.g. 20 years, not-to-mention with
annual increases.
In yet another example, a FERS participant claimed
that their $4,000 employee contributions was the present value of their
FERS plan, with almost 20 years of service.
Keeping in mind that the contributions for FERS participants are
a great deal less than for CSRS participants, the fact was that the
participant had accrued a monthly benefit of approximately $650, or
$7,800 annually, resulting in a lump-sum present value nearly six times
the value of the employee account balance, or approximately $60,000 in
present value terms.
In reality, the government's portion of the
contributions, including funding the annual cost-of-living adjustment
(COLA), constitutes over two-thirds of the overall value of the monthly
benefit. This means that
the employee contributions alone fall way short of the actual value, yet
sometimes the employee account balance is the only information provided
to the attorney. Therefore, it is incumbent upon the attorney
representing the non-plan participant, especially with municipal plans
not affiliated with a state retirement system, to ask of the plan "what
is the participant's accrued monthly retirement benefit as of a certain
date" and “when” or at what age can they commence benefits.
We emphasize accrued as opposed to projected benefits, of which
are primarily intended for retirement planning purposes.
In light of this, an award to the non-participant
spouse of one-half of the employee contributions accrued during the
marriage is not an equitable division of the benefit, especially when a
refund of contributions is rare and considered a severe penalty.
This, since the only way for the participant to receive their
contributions is to request them in lieu of receiving a monthly benefit
at retirement, a monthly pension payment payable for their lifetime.
Therefore, the participant would more than likely elect the monthly
benefit instead of a refund of contributions.
Caution:
If the non-participant spouse is awarded "one-half of the
employee contributions" and the participant elects to receive a monthly
benefit instead of a refund of contributions, the non-participant spouse
would receive nothing upon the participant's retirement, no benefit at
all.
Keep in mind that the account balances associated
with the FERS and CSRS plans should not be confused with the account
balance acquired under the Thrift Savings Plan, one in which a plan
participant contributes to and can control their investments, which
typically is invested in marketable securities.
The primary difference between the FERS plan and
the CSRS plan is that participants in the FERS plan also contribute to
Social Security, while participants in the CSRS do not. This leads to
the question of whether or not both plans should be valued in their
entirety for purposes of property offset, since the Social Security
benefits of the FERS participant, or other private plan participants for
that matter, are not a divisible asset.
The Social Security factor will be briefly discussed a little
later in this article and is an issue that was addressed in a related
article.
Planning Tip:
Although other cases exist around the country, this issue was
addressed in Kelly v. Kelly, 198 Ariz. 307, 9 P.3d 1046 (Ariz.
09/14/2000) where the wife was in FERS and the husband was in CSRS.
Here, the courts recognized that valuing or dividing a husband’s
CSRS retirement benefit was also awarding a portion of his social
security, or what he would have receive in equivalent benefits, yet
without any adverse affect on the wife’s
social security benefits.
With regard to both Federal plans, it is often
unclear as to the exact Plan in which the federally employed spouse is a
participant, since the participant spouse may simply state that he or
she is employed with the Postal Service or some other agency of the U.S.
Government. Therefore, it is worth repeating that there are primarily
two federal "pension" plans in which a U.S. Government employee can
participate, regardless of their occupation, i.e., there really is not a
such thing as postal retirement plan or IRS retirement plan.
In addition, the other most common plan, the Thrift
Savings Plan (TSP), is similar to a savings plan or 401(k). The CSRS and
FERS plans are defined benefit plans, while the TSP is a defined
contribution plan, where the TSP account balance at any given time is
the present value. Because
the Thrift Savings Plan is an account, the TSP is not emphasized here,
however, some important points will be mentioned in the court-ordered
section, Part II of this article.
Another plan not emphasized, but which can be
encountered from time to time, is the Foreign Service Pension System.
This Plan is administered, not by the OPM, but rather by the State
Department (202) 727-5280.
This particular plan is very similar in structure to the FERS plan.
Other smaller Federal plans exist, such as the Judicial Retirement
System (JRS), which also closely resemble FERS.
As previously noted, it is often unclear as to the
exact plan in which a spouse in a divorce may be a participant.
For discovery purposes, keep in mind that the Federal Employees
Retirement System was implemented in 1984 for those
participants/employees commencing employment after December 31,
1983, while the then CSRS participants could elect to remain in their
system or transfer into FERS at that time. There have also been certain
windows of opportunity to transfer from CSRS to FERS subsequent to that
time. Therefore, if the
participant spouse began their federal employment after 1/1/84, they are
undoubtedly in the FERS plan, with the possibility of also participating
in the Thrift Savings Plan.
At the present time, FERS participants contribute
1.2% of their salary to the FERS plan (1.05% and 0.8% in previous
years), regardless of what they might contribute to the Thrift Savings
Plan. CSRS
participants currently contribute 7.4% of their base salary to their
plan (6.2% in past years) which, coincidentally, parallels the
contributions made by individuals actively contributing to Social
Security. The CSRS
participants contribute more than FERS participants, since they will not
receive Social Security benefits, and in return, will receive a larger
than normal retirement benefit.
In the past, courts have recognized this Social
Security dilemma, however, the problem, for the most part, has been with
quantifying some type of discount or consideration for those
participants who do not contribute to Social Security; specifically
during their years of participation in the Plan.
This in light of the fact their pension benefits are enhanced for
lack of Social Security.
The effect of the Social Security element is also quite evident by the
Social Security Administrations reductions or offsets that they apply to
CSRS participant and any Social Security benefits they accrue outside of
the CSRS plan. There is
also a difference in the calculation of retirement benefits under FERS
and CSRS which further identifies a social security element.
FERS participants, who contribute substantially
less to their retirement plan, receive a retirement benefit equal to 1%
of the average of their highest three years of earnings (1.7% for law
enforcement), multiplied by their years of service, while CSRS
participants receive 1.5% to 2% of their average annual earnings
multiplied by their years of service.
Given the impact of the Social Security element in marital
dissolution cases, we have developed some solutions over the years which
have been employed successfully in cases around the country.
One method of extracting out the enhanced portion
of the CSRS benefits, otherwise referred to as the Social Security
element, or benefits in lieu of Social Security, is to calculate what
the Social Security benefit would have been had the participant
contributed to Social Security during their years of participation in
the CSRS plan. This entails
compiling the participant's earnings history under the Plan, information
often available through the participant's employing entity, and then
proceeding to enter this information into the Social Security ANY PIA
program to determine a Social Security benefit.
A present value is computed based on this benefit and
subsequently deducted from the overall present value of the CSRS plan.
A second approach would be to assume that since the
contributions made to the CSRS plan by the employee parallel what would
have been contributed to Social Security on the employee's behalf, that
the value of the account balance could, in effect, be deducted from the
overall value of the Plan to arrive at the present value of the Plan
less the Social Security element. This approach has been used when the
necessary information is not readily available or in cases where the
parties wanted to avoid additional costs. It has been our experience in
many cases where we have performed such calculations using the first
approach, that the lump-sum present value of the benefits in lieu of
Social Security came very close to the value of the employee account
balance, providing justification for deducting the employee account
balance from the overall pension value. Again, the employee
contributions, along with that portion funded by the government, are
used to provide for an annuity that is enhanced for lack of Social
Security, but again, the employee contributions alone are not directly
related to the amount of the monthly benefit the participant will
actually receive.
A third approach is to determine the benefit that
would have accrued had the CSRS plan participant been a FERS
participant. The difference
in the two calculated benefits would then give the attorney, or the
courts, a clue as to how much of the CSRS is attributed to Social
Security, or benefit in lieu of.
A possible fourth approach is to value the Social
Security benefits of both parties, along with their respective pensions,
and derive the net difference in the values, as suggested by one judge
in one county. Although
social security is not a divisible marital asset, this particular
approach does deserve merit.
It does, however, require a thorough investigation into how the
Social Security benefits of each party are affected by certain offsets.
In this particular case, the participant spouse had accrued some
Social Security benefits outside their participation in the CSRS plan,
which were affected by an offset but which was not disclosed on the
Social Security Administration's Statement of Benefits. The Social
Security benefit given by the Social Security Administration for the
participant spouse did not account for the Windfall Profit Elimination
offset nor did it reflect the increase in Social Security benefits due
to the application of prior military service. To complicate matters, the
participant, in effect, used marital funds to purchase the equivalent
military time to be applied to his CSRS benefit.
According to the Social Security Administration and
the OPM, the years of military service not used for military retirement
can be applied to increase either the CSRS benefit or Social Security
benefits, but not both.
Purchasing the additional time, or making a deposit with the OPM, means
that the participant has opted to apply his/her military time to their
Social Security benefits.
This benefit increase is not evident on the information, or benefit
calculations, provided by the Social Security Administration.
If a CSRS/FERS participant has not accrued the total 20 years of
military service required to receive military retirement benefits, the
years of military service can be applied to the CSRS/FERS plan, year for
year in computing the monthly benefit.
The significance of applying military service time to a CSRS/FERS
pension is that the deposit made to purchase additional time is used to:
1) increase CSRS/FERS benefits if benefits commenced before the
participant's normal retirement, usually age 62, and 2) to prevent any
reduction in the CSRS/FERS benefit once Social Security benefits
commence, if Social Security benefits accrued outside any participation
in the CSRS plan.
Planning Note:
If you represent the non plan participant spouse and the plan
participant claims that the military years are pre-marital, look into
whether the purchase of those years (or equivalent years) were made with
marital funds. Second, look
into whether the actual military years will be applied to their Social
Security benefits by contacting your local Social Security
Administration office.
It should be apparent that the deduction of the
Social Security element from within the CSRS pension benefit greatly
depends on the circumstances of the case.
Again, a classic example is when one spouse is in the CSRS plan
and the other spouse is in the FERS plan, yet the Social Security
benefits of the FERS spouse, or any spouse in the private sector, is not
considered in the equitable division of marital assets, and rightfully
so. However, nor should the entire value of the CSRS pension be
considered because of this issue of the Social Security element, or
enhancement. It should also be noted that another aspect of the plan
federal employees may participate in, is the CSRS Offset. CSRS Offset
participants do contribute to Social Security, much like FERS, however
upon commencement of Social Security the CSRS benefit is reduced, or
offset, by the amount of Social Security received, the opposite of what
occurs when one is a full CSRS participant.
As with most pensions or retirement assets in
divorce, they should first be valued to determine whether or not the
participant can retain the entire pension on their side of the marital
asset ledger without the need for drafting an Order to divide the
benefit, with the objective being to provide for an equitable
distribution of all retirement benefits.
Valuing the monthly benefit, for either FERS or CSRS, is
performed much the same way as any traditional defined benefit pension,
however, factoring in the annual cost-of-living-adjustment should not be
ignored. COLAs are a normal
form of benefit funded by the plan and cannot be attributed to any
particular period of time, e.g. post-marital.
Simply ask the plan whether a COLA would be paid on the plan
participant’s benefit if they terminated employment as of the date of
divorce. You’ll find the
COLA should be included in the valuation of a pension benefit.
It should be noted that most, if not all, governmental plans do
allow for annual increases in the retirement benefit, an aspect not
often found in private non-governmental plans. For instance, a 2 to 3 %
COLA increase can increase the lump-sum present values upwards of
approximately 40%, a valuable aspect of the Plans sometimes overlooked
by evaluators.
In conclusion, the primary differences are that
FERS participants receive Social Security benefits while CSRS
participants do not, along with the differences in the contribution
rate, (1.2% for FERS as opposed to 7.4% for CSRS) and, lastly, that the
employee contributions, or account balance, is not the present value of
the plan benefits since it usually pales in comparison to the present
value of the monthly benefit. Many municipal retirement systems will
also have employee contributions or account balances. The plan
administrators of these Plans may initially provide account information
while failing to provide an accrued monthly benefit based on the
participant spouse terminating/retiring as of a specific date, i.e. the
date of separation. All of these factors are a must in the discovery
process and issues that should be pursued upon the onset of a divorce.
More information on dividing retirement benefits under FERS, CSRS, and
TSP will follow in Part II of this article, with information related to
the appropriate agencies to contact.
