DROP and Deferred Comp: 5 'Must-Knows' to Consider Before Participating

Deferred compensation can be a powerful tool, especially for first responders. But is it the same thing as the Deferred Retirement Option Plan (DROP), and are they solid options for those who are eligible to retire but decide to keep working?

While both programs can help bridge the gap between active service and retirement, Joe Duffey of Everest Financial Inc., explains a chief difference.

Kentucky and Ohio, like most states, offer specialized deferred compensation programs to police officers, firefighters, and other emergency service workers. These programs offer significant benefits, but they also come with trade-offs, and understanding the rules and making the right choices requires more than guesswork.

Here’s what every first responder should know before making decisions about these programs.

DROP: The Deferral of Pension Benefits

Many first responders mistakenly believe DROP adds extra money to their retirement. In reality, it’s a way to receive pension benefits while still working, for a limited time. For example, the Ohio Police & Fire Pension Fund (OP&F) allows eligible members to enter DROP and continue working for up to eight years. During this time, their pension payments accumulate—tax-deferred—in a separate account, earning interest.

According to OP&F: "If you participate in DROP, you will continue to contribute a percentage of your salary to OP&F as long as you are actively employed, but a portion of this contribution will be credited to your DROP accrual throughout your participation in the plan. Member contributions are credited to their DROP accrual based on the number of years of DROP service." Contributions to DROP are applied as follows:

• • Years 1-3:
    50 percent of your employee contribution will go to your DROP accrual.
  • Years 4 and 5:
    75 percent of your employee contribution will go to your DROP accrual.
  • Years
  •  6-8:
    100 percent of your employee contribution will go to your DROP accrual.

KDC: The Deferral of Current Income

Similarly, in Kentucky, the Kentucky Deferred Compensation (KDC) program offers voluntary 401(k) and 457(b) plans that first responders can contribute to, supplementing their pension income. While it’s not DROP in structure, it offers another form of deferred compensation that can help manage retirement income and taxes.

Those who participate in KDC have options within options as follows:

Eligibility and Timing Matter

Both DROP and deferred comp programs have strict rules about when you can enter and how long you can participate. In Ohio, participants must have at least 25 years of service and be under the age of 62. In Kentucky, contributions to deferred comp can begin early in a career but must comply with annual contribution limits set by the IRS.

Timing is everything. Entering DROP too early might mean missing out on additional pension growth, while delaying could reduce the compounded interest your DROP account could earn.

You Can’t Touch the Money Right Away

While DROP allows pension benefits to accrue in a separate account, participants cannot access the funds until they officially retire. Early withdrawals may incur taxes and penalties depending on your age and the account type. For example, Kentucky’s 457(b) plans offer more flexibility than a traditional 401(k), with no early withdrawal penalty, but taxes will still apply.

Understanding the tax implications is critical, especially if your retirement income strategy includes other investments, Social Security, or part-time work.

Interest Accrual Isn’t Guaranteed Forever

In Ohio, DROP accounts accrue interest at a fixed rate, which may change based on legislative decisions or actuarial assessments. This means your DROP balance could grow slower—or faster—than anticipated. For example, KDC investment earnings depend entirely on the funds you choose.

These earnings are subject to market fluctuations, so working with a financial advisor to assess risk tolerance and diversify investments is wise.

Exiting DROP Is Final

Once you leave DROP and retire, the account is paid out, either as a lump sum, annuity, or rollover into another retirement account. But you can’t re-enter DROP, and your pension payments resume as if you had retired the day you entered the program.

That’s why careful planning is essential. Miscalculating your needs or retirement goals can lead to regret—or even financial instability—in later years.

For first responders, DROP and deferred compensation programs offer an opportunity to build wealth and smooth the transition into retirement. But the decisions can be complex and the consequences long-term.

Why It's Vital to Consult An Advisor

To make the most of these options, consider sitting down with Joe Duffey of Everest Financial Inc. in Fort Mitchell, KY. Joe can help you understand the nuances of DROP and deferred compensation, explore investment strategies, and build a custom wealth management plan tailored to your career and goals. Call 859-291-9290 for an appointment. 

Additionally, Everest Financial will offer a free informational seminar “Plan Well, Retire Well with DROP” on Tuesday, Aug 12, from 6:30-7:30 a.m., at Sharonville Fire Department Station 86, 11637 Chester Road, Cincinnati. Click here to register.