In my continuing series to make my readers more financially savvy, I have explored possible improvements to our Tax Deferred Annuity (TDA). Its no secret that our TDA is one of the best benefits educators who work for the DOE has. UFT members can get 7% in the Fixed Income Fund, with no administrative or management fees while non-UFT members get 8.25%. According to TRS 60% of all educators funds are in the Fixed Income Fund. Who can blame educators when inflation is running at 2%?
However, our TDA has some shortcomings, a limited selection of funds and up to a three month delay to change your portfolio contribution allocation as well as re-balancing. One of the more serious flaws our TDA has is the lack of a ROTH option. There is no reason why TRS does not offer a ROTH option. The NYCDCP for Municipal employees offer both a ROTH 401{k} and 457 plan. Yet for some unknown reason, the TRS does not offer a ROTH option in their 403{b} plan.
First, let me explain the difference between a ROTH option and our TRS non-ROTH option. The ROTH option requires the contributor to pay taxes, upfront but any withdrawals are tax free. By contrast the TRS non-ROTH option allows the educator to deduct their tax-deferred contribution from their taxable income upfront but then taxes the withdrawals. Both plans allow for appreciation to grow without being taxed while the money accumulates in the plans.
For new and younger employees, the ROTH option is vastly superior to the non-ROTH option. Primarily because the newer employees make less money and therefore, the taxes taken out for each paycheck is less. Moreover, younger employees have a long time to retirement and the appreciation from contributions and compounding will result in a large amount of money subject to taxation when its time to withdraw under the TDA plan. Presently, according to the TRS the average TDA fund has $325,000 in it, a large sum of money that the government would like to get their hands on and will without a ROTH plan. Furthermore, under the non-ROTH TDA plan, retirees over 70 years of age will have to withdraw a certain percentage of money that is subject to Federal tax. This is called the Required Minimum Distribution (RMD). By contrast if the TRS had a ROTH TDA, the withdrawals would be tax free and not subject to the RMD. Finally, by having a lower salary, and the ROTH TDA plan, if there ever is one, would allow money to be taken out paycheck to paycheck, 24 annually, and the bi-weekly tax bite will be minimal, when compared to the tax-free withdrawals at retirement.
For educators near or at retirement, baby boomers for example, its probably too late to convert the TDA to a ROTH plan, if offered, since the money that is transferred into a ROTH plan would be subject to Federal taxes. For example is it really worthwhile to convert your entire $325,000 TDA and pay a 33% to 39.6% tax on it? Probably not. It seems to me you are better off being subject to the RMD which is 3.65% and pay taxes on $11,863 that must be withdrawn from the $325,000 nest egg and at a hopefully much lower Federal tax bracket of between 15% and 28%. For us older folks you can see the tax advantage by contributing to a TDA Here.
Until TRS offers a ROTH TDA plan, the educator really only has two choices. Contribute to the TDA plan or rollover the money and new contributions to the NYCDCP 401{k} or 457 ROTH plans. Personally, I rather have the 7% interest rate guarantee and the tax deduction and pay the RMD when I am 70 years old,