Many company pension plans offer a choice in how retirement benefits can be taken. This article will help you decide whether you are better off choosing a monthly pension payment or single lump-sum pension payment for your retirement years.
Sometimes, companies that only offer a monthly benefit will offer an option to take lump-sum buyouts to present employees and already retired employees to reduce their pension administration cost and future financial liability for the pension payments. In either case the decision about which is best for your situation needs to be carefully considered.
The Pros and Cons for a monthly pension payment:
· Pro- You will have the predictability of knowing the amount of income that will be received annually for the rest of your life and usually can choose a lesser payment amount to continue payments to a spouse for the rest of their life if you die first.
· Con- If you are no longer working for a former employer and have earned vested rights to a monthly pension payment, the payment amount will not increase over the years you continue to work before retiring.
· Con- The monthly pension payments often are set at a specific amount and do not adjust upward over time to offset any future inflation in living expenses. Since 1926, inflation has averaged 3% per year. At that rate, one’s purchasing power will continually decline and become half what it was initially after 24 years of retirement.
· Con- The security of the future continuation of monthly pension payments will depend upon the future financial strength of your previous employer over an extended time-period. Future financial developments may cause a company to be unable to meet their pension payment obligations to former employees. If the company fails to meet its obligation, the government’s Pension Benefit Guaranty Corporation will pay a portion of the monthly benefit up to a maximum (for 2017) $5,359 level payment for life for participants that retired at age 65. (The guaranteed amount various with one’s age at retirement.) The guaranteed amounts are lowered for earlier retirees. If the retirement plan shifts the responsibility for future payments to an insurance company, the financial strength of the insurer will be important for guaranteeing the future payments.
The Pros and Cons for having a lump-sum payment:
· Pro- Provides the flexibility to have immediate access to all of your benefit monies.
· Pro- You can invest the funds yourself in any way desired or retain professional investment counsel to help manage the future investment decisions.
· Pro- Any remaining monies are not lost at death, since they can be left to heirs.
· Con- Unless professional help is retained, you remain solely responsible for making sure that the monies will last throughout retirement.
· Con- Your investments may be subject to market fluctuations, which could increase or decrease the value of your assets and the income that can generate from them.
Lump-sum Tax Planning Tip- Make sure to “roll” the entire distribution into an IRA account or the distribution will be taxed as ordinary income and potentially put your income into a higher tax-bracket. If you are younger than age 59 1/2, there is an extra 10% penalty, unless you start taking minimum distribution payments. [Caveat: The monies received all at once in a lump-sum distribution is intended for covering your future retirement income needs. It is not advisable to use this money for other spending payments, such as paying off credit card debt or children’s school loans.]
Health Considerations- Monthly pension payments and lump-sum benefit amounts are calculated based on actuarial assumptions based on your current age, mortality probabilities, and interest rates. The actuarial assumptions do not include any individual consideration for the condition of your present of future health. If you expect to live longer than the average life expectancy assigned for your age, the value and certainty of having regular monthly payment that will last throughout your lifetime can increase this option’s appeal.
If your family or personal history suggests a shorter than average lifespan, taking a lump-sum distribution will usually be the better choice for maximizing the future financial benefit for yourself and family. This is because monthly pension payment plans usually do not provide the ability to transfer any of the benefit to children or grandchildren.
Combining Payment Choices- If your guaranteed income from sources such as social security and pensions are very close to your projected expenses, taking monthly pension payments may be desired. However, if your guaranteed income will be more than your expenses, it may be desirable to take a lump-sum payment, using a portion of it to pay monthly expenses and keeping the balance invested for growth.
Greg Tinaglia
Last Updated: 06/23/2017