Teachers’ Nest Eggs Require Special Handling

Recent problems involving a $1-billion California investment pool for teachers shed light on how teachers fund their retirement savings.

A civil lawsuit filed last month alleges that Newport Beach-based Teachers Management & Investment Corp. lost $100 million of clients’ retirement money through fraud. But TMI’s owners blame hard economic times for depressing the value of the fund’s holdings.

Either way, many teachers--including many who never dealt with TMI--are nervous.

In many states, teachers, government employees and employees of nonprofit institutions are not covered by Social Security. Instead, their pensions depend on separate--and often unequal--retirement programs that are partly financed by school districts and state governments. In many cases, Medicare coverage is not automatic. That combination can leave these public servants in bad shape during their golden years.

How does the system work and what can teachers do to boost their retirement security? Here are some questions and answers:

*

Q: What does a California teacher get at retirement?

A: A defined-benefit pension from the California State Teachers Retirement System. The exact amount of pension varies based on age at retirement, years of teaching and monthly income.

Those who retire at age 60 can estimate their pension benefit by multiplying their years of service by 0.02 and multiplying that result by their average monthly earnings in their final three years of work.

In other words, if your average monthly earnings were $3,000, you taught 20 years and retired at age 60, your pension benefit would be 0.4 times $3,000, or $1,200.

If you retire before age 60, the pension would be less. Additionally, if you want to ensure that your spouse continues to get monthly payments if you die first, you would collect a diminished benefit.

*

Q: How does that compare to everyone else?

A: Generally speaking, those who work for for-profit companies get a company pension and Social Security. The value of company-paid pensions varies. Some are very generous, others paltry.

Social Security payments are fairly modest. The maximum benefit, which is indexed each year for inflation, is currently $1,147 a month. However, Social Security automatically provides survivor’s benefits and spousal benefits for non-working spouses.

*

Q: Why don’t California teachers get Social Security?

A: Because they don’t pay Social Security taxes.

However, teachers who started working within the past eight years do pay into--and should qualify for--Medicare. That’s because federal law changed in 1986 to require new teachers to pay Medicare taxes. Those who were teaching prior to 1986 were allowed to opt out.

That’s because Medicare works like Social Security. If you have less than 10 years paid in, you get nothing. When the law changed in 1986, Congress allowed districts to give existing teachers the choice of paying 1.45% of their income into Medicare or opting out. As a result, many of the teachers who will be retiring in coming years have no Medicare coverage.

*

Q: What about teachers who have summer jobs or prior employment where they did pay Social Security taxes? Do they get anything back?

A: If they have at least 40 quarters of eligible earnings--the equivalent of 10 full years--yes. But they wouldn’t get as much as a comparable non-teacher.

*

Q: What about Medicare?

A: Medicare, the government health insurance system for the elderly, is administered by and works like Social Security. You generally pay into it through employee withholding during your career, then--assuming you have 10 or more years of work--you can receive it at age 65.

But only some teachers pay into the Medicare system. As a result, only some teachers will qualify for Medicare benefits at retirement.

*

Q: What do you do if you don’t have Medicare?

A: Some school districts pay retiree health benefits. However, this is becoming increasingly rare, school officials say. It’s more likely that you’ll have to buy Medicare coverage when you retire.

*

Q: What does that cost?

A: It varies based on your age when you apply and inflation. However, it currently costs slightly less than $300 a month to purchase both doctor and hospital coverage through Medicare when you apply at age 65, says Leslie Walker, a spokeswoman for the Social Security Administration in San Francisco. If you apply late, you’ll pay more.

*

Q: How can teachers bolster their retirement savings?

A: There’s a special type of retirement account available to teachers and government and nonprofit employees called a 403(b) plan. It works something like the 401(k) plans offered by many companies. Teachers decide how much of their paychecks they’d like to contribute to the plan, and that amount is deducted from their pretax earnings through employee withholding.

Generally speaking, the maximum amount you can contribute is the lesser of 20% of your earnings or about $9,000.

The teachers then “direct” these investments into the mutual fund or insurance annuity investments offered in their school districts, says Thomas Bieniek, senior vice president of Fidelity Investments Tax-Exempt Service Co. in Boston.

*

Q: How is a 403(b) different from a 401(k)?

A: The main difference is that most employers match a portion of worker contributions to 401(k)s, but few public schools--kindergarten through 12th grade--provide 403(b) matching funds, Bieniek says. That’s one reason participation rates are far lower in 403(b) plans than 401(k) plans, he says. There are also some investment restrictions on 403(b) plans that don’t apply to 401(k)s.

Nonetheless, 403(b)s are very attractive for a simple reason: taxes. Contributions are deducted before tax, so they reduce your taxable income and the amount of federal tax you owe at the end of the year. Additionally, income earned in the 403(b) plan accrues tax-free until the money is withdrawn at retirement. As with a 401(k), money withdrawn at that time is taxable.