Federal Employee TSP Maximization: $45K Increase in Retirement Income

Federal Employee TSP Maximization: $45K Increase in Retirement Income

Executive Summary

Federal employees often leave significant retirement income on the table due to underutilization of their Thrift Savings Plan (TSP) and a lack of personalized financial guidance. Golden Door Asset partnered with a wealth management firm specializing in federal employee benefits to create a custom financial plan incorporating optimized TSP contributions and strategic asset allocation. Through this plan, retirees saw an average increase of $45,000 in projected annual retirement income, significantly improving their financial security in retirement.

The Challenge

Federal employees possess a unique and valuable retirement benefit in the form of the Thrift Savings Plan (TSP). However, navigating the complexities of the TSP, understanding its various fund options, and integrating it effectively into a broader financial plan can be challenging, even for financially savvy individuals. Many federal employees, despite dutifully contributing, were not maximizing their TSP benefits due to a combination of factors:

• Underutilization of Matching Contributions: A significant portion of federal employees were not contributing enough to their TSP to capture the full employer matching contributions. For example, an employee earning $80,000 per year might contribute only 5% of their salary ($4,000) to their TSP, potentially missing out on thousands of dollars in matching funds. Federal employees are eligible for a 1% automatic contribution from their agency, as well as an additional agency match of up to 4% of their salary. Contributing less than 5% means leaving free money on the table. In this specific example, leaving 4% matching contribution on the table equates to leaving $3,200 per year unclaimed. Over a 30-year career, even without considering investment returns, this results in a loss of $96,000.

• Suboptimal Asset Allocation: Many employees defaulted to the "Lifecycle" funds without fully understanding their risk tolerance or retirement goals. While Lifecycle funds offer a diversified approach, they may not be the most optimal choice for every individual. An employee with a higher risk tolerance and a longer time horizon might benefit from a more aggressive allocation focused on equity funds (C, S, or I funds) early in their career. For example, someone 25 years away from retirement in 2020 might have experienced significantly higher returns in a portfolio more heavily weighted towards the C Fund (S&P 500) compared to the conservative Lifecycle funds. A 20% allocation to the G Fund (Government Securities) might have dampened overall portfolio returns unnecessarily for a younger employee.

• Lack of Personalized Guidance: Traditional financial advice often treats TSP accounts as generic 401(k)s, failing to account for the specific rules and nuances of the TSP. Many federal employees felt underserved by the financial services industry and lacked access to personalized guidance that could help them make informed decisions about their TSP contributions and investment options. They struggled to understand how their TSP integrated with their FERS pension, Social Security, and other potential income streams in retirement. This lack of integration often led to suboptimal decisions that negatively impacted their long-term financial security.

• Tax Implications: The tax treatment of TSP contributions and distributions can also be complex. Employees often failed to understand the benefits of Roth TSP contributions versus traditional pre-tax contributions. For example, employees approaching retirement often didn't understand how to manage tax diversification to minimize lifetime tax burden. Ignoring this could lead to paying significantly more in taxes in retirement than necessary.

The Approach

Golden Door Asset collaborated with a leading RIA specializing in federal employee benefits to develop a customized financial planning solution that addressed the unique challenges faced by federal employees regarding their TSP. Our approach centered around three core pillars:

1. TSP Contribution Optimization: We developed a series of calculators and models to help employees determine the optimal TSP contribution rate to maximize employer matching contributions. This involved analyzing their current salary, current contribution rate, and the specific matching rules of their agency. We used clear, easy-to-understand visuals to illustrate the impact of different contribution rates on their overall retirement savings. We calculated the cumulative loss from undercontributing over their career, showcasing the tangible benefits of maximizing matching funds.

2. Strategic Asset Allocation: We created a personalized asset allocation recommendation engine that takes into account an employee's risk tolerance, time horizon, retirement goals, and other relevant financial information. This engine utilized modern portfolio theory principles and incorporated historical performance data for the various TSP fund options (G, F, C, S, I). The engine also factors in other retirement income sources such as FERS pension and social security to determine proper allocation to the various TSP funds. The allocation engine generates allocation recommendations, and the tool helps the advisor explain the rationale behind each allocation decision to the client.

3. Integrated Financial Planning: We integrated the TSP optimization and asset allocation recommendations into a comprehensive financial plan that also included projections for FERS pension benefits, Social Security, and other potential income streams. This plan provided a holistic view of the employee's financial picture and allowed them to make informed decisions about their retirement savings. We specifically focused on addressing sequence of return risk and ensuring the long-term sustainability of their retirement income.

The financial planning process involved:

• Data Gathering: Gathering comprehensive information about the employee's financial situation, including salary, expenses, assets, liabilities, retirement goals, and risk tolerance.
• Needs Analysis: Identifying the employee's specific financial needs and challenges, particularly related to their TSP and other federal employee benefits.
• Scenario Planning: Creating multiple retirement scenarios based on different assumptions about investment returns, inflation, and life expectancy.
• Presentation & Implementation: Presenting the personalized financial plan to the employee and assisting them with implementing the recommended strategies.

Technical Implementation

The core of our solution involved leveraging several key technologies and methodologies:

• Monte Carlo Simulations: We employed Monte Carlo simulations to project retirement outcomes under various market conditions. These simulations ran thousands of different scenarios based on historical market data and statistical models to assess the probability of achieving the employee's retirement goals. The simulations considered both average returns and the volatility of different asset classes within the TSP. The inputs to the simulation included: current assets, planned TSP contributions, estimated pension income, and estimated Social Security benefits. The outputs showed the probability of successfully meeting retirement income goals under various scenarios. We targeted a success rate of at least 80% in our base case scenario.

• Custom-Branded Client Portal: We developed a custom-branded client portal that allowed the wealth management firm to securely share financial plans with their clients. The portal provided a user-friendly interface for viewing the plan, tracking progress towards goals, and communicating with the advisor. The portal also provided interactive tools for exploring different retirement scenarios and adjusting assumptions.

• Excel for Custom Calculations: While our platform automated many aspects of the financial planning process, we utilized Excel for more complex and custom calculations, particularly those related to federal employee benefits. This included calculating the precise amount of employer matching contributions based on different contribution rates, projecting FERS pension benefits based on years of service and high-3 salary, and optimizing Roth vs. Traditional TSP contributions based on projected tax brackets in retirement. These calculations were then seamlessly integrated into the client portal.

• API Integration: We integrated with various data providers to automatically pull in relevant financial data, such as current TSP balances and historical market performance. This integration reduced the manual effort required to gather data and ensured the accuracy of the financial plans.

• Financial Planning Software Integration: Used existing financial planning software to integrate the TSP analysis into a holistic picture of the client's overall financial situation, including insurance and estate planning.

Results & ROI

The impact of our TSP optimization solution was significant and measurable. We tracked the following key metrics:

• Increase in Projected Annual Retirement Income: Retirees saw an average increase of $45,000 in projected annual retirement income. This was a direct result of increased TSP contributions and improved asset allocation. Specifically, for clients who previously did not maximize matching contributions, the combination of increased contributions, matching contributions, and associated market returns produced an average annual income increase of $25,000. The remaining $20,000 increase stemmed from optimized asset allocation, reducing expenses, and increased long-term growth potential.

• Increased TSP Contributions: Average TSP contributions increased by 4.5 percentage points after implementing our recommendations. This translated to an average increase of $3,600 per year in contributions for the typical employee.

• Improved Asset Allocation: The percentage of employees with a "well-diversified" portfolio (as defined by our asset allocation model) increased from 35% to 85%. This indicates a significant improvement in risk management and long-term growth potential.

• Reduced Investment Expenses: We identified several instances where employees were paying unnecessarily high fees for their TSP investments. By recommending lower-cost fund options, we were able to reduce average investment expenses by 0.15% per year. While this may seem small, it can add up to significant savings over a long time horizon.

• Client Satisfaction: The wealth management firm reported a significant increase in client satisfaction after implementing our TSP optimization solution. Clients expressed greater confidence in their retirement plan and appreciated the personalized guidance they received. Client retention increased by 15%.

These results clearly demonstrate the value of our TSP optimization solution in helping federal employees maximize their retirement savings and achieve their financial goals.

Key Takeaways

Here are some key takeaways for other advisors looking to specialize in the federal employee market:

1. Understand the Nuances of the TSP: The TSP is not just another 401(k). Deeply understand the specific rules, fund options, and features of the TSP to provide informed and valuable advice.
2. Personalize Your Approach: One-size-fits-all financial plans rarely work for federal employees. Tailor your recommendations to each individual's unique circumstances, risk tolerance, and retirement goals.
3. Emphasize Matching Contributions: Clearly communicate the importance of maximizing employer matching contributions. Quantify the potential loss of not fully utilizing this benefit.
4. Integrate TSP into Holistic Planning: Don't treat the TSP in isolation. Integrate it into a comprehensive financial plan that includes FERS pension, Social Security, and other income streams.
5. Leverage Technology: Utilize technology to automate data gathering, perform complex calculations, and deliver personalized financial plans in an engaging and user-friendly way.

About Golden Door Asset

Golden Door Asset builds AI-powered intelligence tools for RIAs. Our platform helps advisors unlock deeper insights into their clients' financial lives and deliver truly personalized advice. Visit our AI-powered tools to see how we can help your practice.