Thinking about the Deffered Retirement Option Program? Read this report first! The information provided herein is for general reference purposes only. It is not approved or endorsed by the Florida Retirement System. Please consult a qualified professional to discuss your specific situation.
01 What is DROP? Overview First, let s take a moment to understand exactly what the Florida DROP Program is. The acronym DROP is short for the Deferred Retirement Option Program. The DROP program is a qualified retirement plan available to eligible Florida Retirement System (FRS) Pension Plan members... but participation is only open for a very limited one-year enrollment period. While enrollment eligibility varies depending on your service and risk class, generally, your one-year drop enrollment period begins when: You are vested and have reached age 62; or You have 30 years of service. To learn more about DROP eligibility, check out our video series available on our website. So, what s the catch? An extra lump sum of money sounds pretty good, so why wouldn t everyone choose DROP? The one potential downside is that IF you choose drop, you MUST retire within five years of your eligibility date. (You can always retire earlier than five years, but you cannot retire later.) You don t have the option of accumulating the DROP benefits for three years, and then changing your mind and postponing your retirement date. Once you make the decision to join DROP, you also make the decision to retire in five years. When you enroll, it is an irrevocable decision. While the DROP program can be a great benefit, it s important to know the potential pitfalls before you enroll. Read on to gain valuable information that will help you avoid the four most costly DROP mistakes. The Pros and Cons of DROP The major benefit of enrolling in the DROP program is that it allows you to begin accumulating retirement benefits during your last five years of employment with a FRS employer. The retirement benefits you accrue earn interest and receive cost of living adjustments. This gives you the ability to accumulate an extra lump sum of money to supplement your retirement income. Upon termination of employment (retirement), your DROP account is paid to you as a lump sum payment, a rollover or a combination partial lump sum payment and rollover. And, from that day forward, you also continue to receive your monthly pension benefit payments according to your DROP election. Case in Point: Mary Kerns Mary is a 60-year-old teacher with a husband and two daughters. She earns $55,000 annually and she has 30 years of service. Under the DROP Single Pay option, Mary is available for a monthly DROP benefit of $2,200. She can accumulate that $2,200 in a Qualified Retirement Savings account while she is still working, during her fiveyear DROP period. When she retires, she will have the money she accumulated during the DROP period, and she will continue to earn her monthly benefit for as long as she lives.
02 The Four Most Costly DROP Mistakes DROP Mistake #1: Failure to Plan before DROP eligibility The decision to participate in DROP is a big one. You have to be sure that you ll have enough money to retire in five years, and in a tumultuous market, the value of your future assets can be hard to predict. During the three-to five-year planning phase prior to becoming eligible for DROP, many people discover they can make small changes in their savings strategies to help maximize future retirement income and DROP preparedness. In addition to financially preparing for retirement, it s important to emotionally plan for this major life transition. Although retirement should be a happy time of newfound freedom and adventure, many new retirees experience anxiety, depression and even divorce! According to an Investopedia article, retirees must go through six major stages when transitioning to this new phase of life. Even if you are financially prepared to retire, emotional preparation is crucial. Don t wait to plan! DROP Mistake #2: Missing all or part of the 12-month enrollment window Once you are eligible for DROP, you want to make the decision and enroll as soon as possible so you can maximize the entire 60-month DROP accumulation period. The scenarios below illustrate the cost of delaying your decision. Mistake #2 Case in Point: Mary Kerns Scenario A: Mary becomes eligible for DROP on April 1, 2012. She isn t totally sure she can afford to retire in five years so she procrastinates on her decision. Finally, in the last month of eligibility, she enrolls in DROP. However, because she wasted the whole first year, she now only has a 48-month period to accumulate a lump sum of benefits instead of the full 60 months originally available to her. Using a benefit amount of $2,200 multiplied by a 48-month accumulation period, we can see that Mary could earn $105,600 (not including interest and cost of living adjustments) during her last four years of employment. Scenario B: Mary becomes eligible for DROP on April 1, 2012. She has already planned ahead so she is ready and confident! She immediately enrolls in DROP so she can take advantage of the full 60 months of extra savings. Using the same benefit amount of $2,200 multiplied by a 60-month accumulation period, we can see that Mary could earn $132,000 (not including interest and cost of living adjustments) during her last five years of employment. Scenario C: Mary is unsure about what to do, so she decides to put off her decision until later. However, later in the year, her husband is diagnosed with cancer and has to undergo two surgeries. During the stressful time, Mary forgets all about her enrollment window and completely misses it. This is a costly mistake that cannot be reversed. Although the situation is unfortunate, Mary will never have another opportunity to enroll in DROP and to earn the extra lump sum of $132,000 that was available to her. As you can see, indecisiveness is costly. If Mary delays her decision until the end of her enrollment period, it could cost her $26,400 (132,000-$105,500). If she misses the window altogether, the cost is even steeper - $132,000!
03 DROP Mistake #3: Choosing the wrong DROP benefit payment option When you enroll in the DROP program, you are required to choose a benefit payment option. There are four benefit payment options available. All four options provide lifetime benefits to the retiree. However, only options 2, 3 and 4 allow you (the retiree) to provide benefits to a beneficiary or joint annuitant in the event of your death. You cannot change benefit payment option after beginning DROP participation so it s important to make the right choice, right away! Option 1: You receive the maximum lifetime monthly payment over your lifetime. However, there is no continuing benefit for you spouse or beneficiary. If you are married, and elect to receive option one, upon your death your spouse will receive no additional pension payments. Your pension payments end upon your death, period. Option 2: You receive a reduced monthly lifetime benefit in exchange for a 10-year guarantee for your beneficiary. If you die within a period of ten years from your retirement date or DROP begin date, your designated beneficiary will receive the same monthly benefit you were receiving until the monthly benefits payable to both you and the beneficiary equal the balance of the 10-year period. If you die after that 10-year period, there is no continuing benefit to the beneficiary. The amount of benefit reduction of Option 2 depends on your age only. Option 2 is particularly appropriate if you are in ill health and your beneficiary does not qualify as a joint annuitant. Anyone can be named as a beneficiary under Option 2, as well as charities, organizations, or your estate or trust. This is joint survivorship payout, meaning that the retiree receives less so that the spouse or beneficiary continues to receive the pension payments for the balance of the first 10 years after the payments begin. Option 3: You receive a reduced monthly lifetime benefit and upon your death, your joint annuitant receives the same monthly lifetime benefit. Upon your death, your joint annuitant, if living, will receive the same monthly benefit you were receiving. (There are some variations on the benefit amount if the joint annuitant is your child and under age 25.) No further benefits are payable after both you and your joint annuitant are deceased. This is also a joint survivorship payout. Option 4: You receive a reduced monthly lifetime benefit while both you and your joint annuitant are alive. In addition, there is a reduced survivor benefit available upon the death of you or your joint annuitant. Upon the death of either you or your joint annuitant, the monthly benefit payable to the survivor is reduced to two-thirds of the monthly benefit received while both were living. No further benefits are payable after both you and your joint annuitant are deceased. This is also a joint survivorship payout. As you can see, this can be a very difficult and confusing decision. Of course, you d like to collect your maximum lifetime benefit, but if you have a spouse, you probably do not like the idea of leaving your loved one with nothing in the event you pass away prematurely or that they outlive you! Facing this scenario, many people automatically choose option 2 without considering all the alternatives. To learn more about your benefit options, make sure to request our free report, Getting the Most from DROP. Also, take a moment to consider this: Options 2, 3 and 4 each come with a cost, in the form of a reduced monthly lifetime benefit. It s important to assess that cost and to determine if there are better ways to protect your loved ones.
04 The information provided herein is for general reference purposes only. It is not approved or endorsed by the Florida Retirement System. Please consult a qualified professional to discuss your specific situation. Mistake #3 Case in Point: Mary Kerns Option 1: Mary can earn a lifetime monthly benefit of $2,200. This is the maximum benefit amount available. Option 2: Mary can earn a lifetime benefit amount of $2,000, with the option to provide her spouse Bob with benefits for up to 10 years. The cost for the option to provide Bob 10 years of benefits is $200 per month (the amount sacrificed from her maximum benefit). Interesting Alternative: What if Mary chose option 1, collected her maximum benefit and invested $200 a month into a $200,000 life insurance policy with Bob as the beneficiary? Instead of having access to a maximum of 10 years of benefit payments, Bob would have access to a full $200,000 tax-free lump sum paid out by the life insurance company upon Mary s death. This would give Bob much more control and better access to cash in the event of Mary s death. As you can see, exploring supplemental solutions (outside of the DROP system) may allow Mary to have her cake and eat it too! She can enjoy the maximum benefit while also making sure her spouse is protected. This is a better scenario for Bob too because if Mary dies, he may need immediate access to cash to pay for her final expenses or to pay off the mortgage. With life insurance, Bob has more options than he would with DROP options 2, 3 and 4. Also, with life insurance, if Bob and Mary die together in an unforeseen accident, the death benefit payment can go to the next named beneficiaries, such as their children. Where as with option 2 this is not possible. DROP Mistake #4: Squandering the DROP lump sum If you choose to enroll in DROP, you likely recognize the huge advantage of accumulating a lump sum of cash before you retire. However, you may not realize the importance of keeping that money SAFE after you retire. Some retirees have unfortunately made the mistake of rolling their DROP lump sums into the stock market, exposing them to unnecessary risk of significant losses. There are several safer alternatives available where your money can grow with minimal to no risk of loss. Once retired these DROP funds cannot be earned again and you can no longer make contributions to offset market losses so be careful how you choose to invest these funds. In Summary DROP is a great option for those who are emotionally and financially prepared to retire within five years of eligibility. However, careful thought and pre-planning are essential. The following four steps will help you avoid the four costliest DROP mistakes: 1. Begin planning at least three to five years prior to your drop enrollment period so you are financially and emotionally prepared to make your DROP decision. If you are already within three-five years of eligibility begin planning today! Don t put it off. 2. Know when your 12-month DROP enrollment window opens and closes. If you plan to enroll, do so as soon as possible to take advantage of the entire five-year accumulation period. 3. Choose the DROP option that s really in your and your spouse s best interest. Know that there are multiple ways to provide for your spouse, and sometimes the best options are found outside of the DROP payment reduction options. 4. Once you ve accumulated your DROP lump sum, keep your money safe and invest it wisely. Of course, all of these steps are easier with a certified financial planner by your side! To schedule a free DROP consultation with an expert, please visit our website.