Key Takeaways
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Locality pay increases your take-home salary during your working years, but it typically does not count toward your federal retirement annuity.
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A bill introduced in 2025 proposes excluding locality pay from the high-3 average salary calculation, which could significantly reduce future annuities for government employees.
Understanding Locality Pay in 2025
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While locality pay can substantially increase your take-home income while you’re working, it’s important to understand that it doesn’t automatically boost your retirement income.
What Counts Toward Your “High-3” Retirement Calculation
Your federal retirement annuity under the Federal Employees Retirement System (FERS) is calculated based on your “high-3” average salary. This refers to the highest average basic pay you earned during any three consecutive years of federal service. Here’s the critical detail:
Basic pay includes your base salary and certain forms of pay like shift differentials—but not locality pay.
Unless Congress takes specific action to include locality pay in the high-3 calculation, it remains excluded. In 2025, a new bill proposes to permanently exclude locality adjustments from being factored into the high-3 computation.
This means if your highest earnings are inflated by locality adjustments—say, in cities like Washington, D.C., San Francisco, or New York—those extra amounts will not increase your annuity.
The Implication for Your Retirement Planning
If you’re relying on your current salary—including locality adjustments—as a gauge for your retirement income, you might be in for an unpleasant surprise.
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Annuity Shortfall: When you retire, your pension will reflect only your basic pay. If you’re earning $120,000 annually, but $25,000 of that comes from locality pay, your annuity will be based on $95,000.
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Underestimated Income Gap: This can leave a sizeable gap between your final paycheck and your monthly annuity. Without proper planning, the drop could impact your quality of life.
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Misleading Retirement Estimates: Relying on salary statements without understanding what counts as basic pay could result in overestimating your future income.
What Happens If the 2025 Bill Passes
The proposed 2025 legislation seeks to formalize the exclusion of locality pay from the retirement annuity calculation. While the Office of Personnel Management (OPM) has historically excluded it, some retirement advocates hoped it might one day be included. This bill, if passed, would settle the issue permanently.
Key elements of the proposal include:
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Codifying Locality Pay Exclusion: This would close any loopholes or administrative reclassifications that might allow locality pay to count.
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Limiting Retirement Growth: Those who receive high locality pay rates may find their retirement annuities are lower than expected.
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Affecting Retirement Decisions: Employees nearing retirement may delay or reconsider retirement if they were counting on a higher annuity.
How to Adjust Your Retirement Strategy in 2025
Facing the reality that your annuity may be smaller than anticipated due to excluded locality pay means adjusting your long-term financial plan. Here’s what you can do in 2025:
Maximize TSP Contributions
Your Thrift Savings Plan (TSP) becomes even more critical. Since it’s not dependent on basic pay calculations, you can grow your retirement income significantly by:
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Contributing the full $23,500 elective deferral limit.
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Making catch-up contributions if you’re between 50 and 59 ($7,500) or 60 to 63 ($11,250).
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Ensuring a diversified investment strategy aligned with your risk tolerance and retirement timeline.
Use Your High-3 Window Strategically
If you’re approaching retirement, consider:
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Relocating to lower-locality areas with similar or higher basic pay scales.
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Securing promotions that increase base pay, not just locality pay.
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Extending service to include three years with the highest basic pay possible.
Review Your FEHB and Social Security Options
Since your annuity may be lower than expected:
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Coordinate your Federal Employees Health Benefits (FEHB) coverage with Medicare for lower out-of-pocket costs.
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Review when to start drawing Social Security, especially now that the Windfall Elimination Provision (WEP) has been repealed in 2025.
Adjust Retirement Income Projections
Recalculate your retirement income based on your actual basic pay only, not your total salary with locality included. Use updated TSP calculators and consult with a licensed agent listed on this website.
Timeline to Watch in 2025 and Beyond
Understanding key dates in 2025 can help you better navigate upcoming changes:
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January 2025: Legislation introduced to exclude locality pay from retirement calculations.
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Mid-2025: Bill expected to be debated and voted on in Congress.
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End of 2025: If passed, the law could take effect starting January 2026, impacting retirement applications filed from that point forward.
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Ongoing: Retirement seminars and webinars now include warnings about locality pay’s exclusion. Make sure you attend or review materials provided through your HR department.
Locality Pay’s Role in Your Retirement Reality
While locality pay improves your financial comfort while working, it often creates a false impression of long-term financial security. Many government employees use their current salary as a benchmark for future income. But when the annuity kicks in, the gap can be significant—sometimes more than 25% lower than expected.
This disparity becomes even more pronounced in regions with high locality adjustments. It’s essential to stop thinking of your total salary as your “retirement salary.” The real number is lower, and it’s determined strictly by your basic pay.
Don’t Assume the System Will Change in Your Favor
Some employees believe that over time, locality pay might be included in retirement calculations. While this idea has surfaced occasionally, the 2025 bill makes the opposite more likely: a formal, long-term exclusion.
Why this matters:
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You cannot base your retirement expectations on “what might happen.”
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Assuming change is coming may delay necessary financial adjustments.
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The current legislative direction suggests fewer inclusions in annuity calculations, not more.
Who’s Most at Risk in 2025
Certain groups of government employees may feel the impact of locality pay exclusions more than others:
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Employees in Urban Hubs: Those working in cities like Los Angeles, New York, and D.C. with high locality adjustments.
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Late-Career Professionals: Workers in their 50s and early 60s who might not have time to significantly raise their basic pay before retiring.
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Employees Who Changed Regions: Those who spent much of their career in low-locality regions and only recently moved to a high-locality area.
If you fall into one of these categories, it’s time to revisit your retirement timeline, projections, and spending expectations.
Retiring Smart Without Overestimating Your Pension
Knowing the limits of your pension calculation gives you the power to plan smarter. It allows you to:
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Rely more heavily on TSP, Social Security, and personal savings.
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Calculate your high-3 based only on verified basic pay.
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Prepare for healthcare and housing costs without overconfidence.
It may even influence when and where you retire. A smaller annuity might mean you relocate, delay retirement, or reduce future lifestyle expectations.
Preparing Now Can Mean a Stronger Retirement Later
Understanding how locality pay fits into the big picture is essential in 2025. If you’ve never separated your basic pay from your total pay, now is the time.
Use the remaining months of this year to:
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Review your official SF-50s to identify your basic pay history.
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Consult with your agency’s retirement counselor.
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Explore TSP options, contribution increases, and portfolio rebalancing.
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Discuss your plan with a licensed agent listed on this website who specializes in government retirement benefits.
Protect Your Retirement Income—Even If Locality Pay Won’t Help
Locality pay may improve your lifestyle today, but your retirement is built on a narrower financial base. That base excludes the locality bump, which means you need to be more proactive and precise in your planning.
Take control by reviewing your pay breakdown, calculating your true high-3, and strengthening your TSP and other income sources. If Congress codifies the exclusion in 2025, you’ll be ahead of the curve—not behind it.
If you’re unsure how this might affect your retirement plans, speak with a licensed agent listed on this website for expert guidance tailored to your situation.
