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PARSING OPTIONS FOR THRIFT SAVINGS PLAN

Q: I am a 66-year-old divorced federal employee. I have $123,000 in my Thrift Savings Plan account. I have been investing 100 percent in the G fund, the one that invests in government securities. I hope to work until I'm 69 or 70 and have saved the maximum allowed during the nine years I've been eligible to invest. I have about $70,000 in IRAs and savings and have about $170,000 in equity in my home.

How should I invest the $123,000 in the various TSP funds: the Government, Fixed Income, U.S. Common Stock, Small Cap common Stock, International Stock and Lifecycle funds? One article I've read suggests diversifying in cash, a mix of corporate and agency-backed bonds, international bonds, large-growth stocks, large-value stocks, mid-value stocks, small-value stocks, international stocks, gold, commodities and real estate.

A: Since the Thrift Savings Plan is limited to the five investment options you named plus the "L" funds, which are portfolios built with those options, you'll need to keep your portfolio simple.

One option is what I call the Margarita portfolio, three assets mixed in equal measure, just like the drink. The asset classes, in your case, are the C fund for large-cap domestic stocks, the I fund for international stocks, and the F fund for a broad index of domestic bonds. You can read more about Couch Potato investing on my Web site.

At 67 percent equities, your portfolio would be a bit more aggressive than most retirement funds, mostly to offset the de facto bond fund you'll have in the relatively small (due to limited years of service) defined benefit pension you'll have when you retire.

Buying time

Q: I work for a public employer and have the option to restore retirement credit for times when I withdrew from the system. Basically I will get 2.5 percent of salary for every year of service that I add. This seems like a really good deal. Is it?

A: The first thing you need to know is that a 2.5 percent replacement rate of final salary costs a great deal to fund. It is significantly higher than typical private-sector pension formulas, and they cost about 7 percent of payroll.

Generally speaking, buying years of service is a slam dunk compared to alternative paths to the same lifetime income. You can evaluate this for yourself by taking these steps.

First, calculate the increased retirement benefit for buying one year of service, assuming you retired within a year. If you are currently 60 and earning $60,000 a year, a one-year gain in service would mean an additional income benefit of $1,500 a year, or $125 a month.

Second, go online to www.immediateannuities.com, fill in the requested information and learn how much it will cost to buy a lifetime-only annuity for $125 a month. Then compare this amount with the amount you will have to pay to gain that year of credit.

Third, if your lifetime annuity is adjusted for inflation, go to the annuity portion of the Vanguard Web site. Find out how much it will cost to have an inflation-adjusted life annuity in the same amount. Inflation adjustment generally costs about 50 percent more than a fixed annuity, so there is a good chance it would cost up to three times as much to get the same benefit from a private source as from your buy-in offer.

That makes your buy-in opportunity a real slam dunk - you are buying lifetime benefits at 50 cents to 33 cents on the dollar.

Is there a caveat here? You bet. Public-sector pension funds nationwide were underfunded before the recent market bust. They are more underfunded today. So the real question is whether the public pension funds will be able to make good on all that they have promised.

Scott Burns is a principal of the Plano, Texas, investment firm AssetBuilder Inc., a registered investment adviser. Questions about personal finance and investments may be sent by e-mail to scott@scottburns.com. Visit www.scottburns.com to comment on articles, find links or discuss personal finance.

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