Pension: Lumpsum or leave it for retirement

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country5rs
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Pension: Lumpsum or leave it for retirement

Post by country5rs » Fri Sep 29, 2017 11:47 pm

I left a company about 5 years ago, but I had enough service that I got vested into pension plan when I left. Based on their calculation, I am to get about $750 every month when I turn 65 - which is 20 years from now. Recently I got a mail from the pension plan stating I now have few options.
1. Opt for lump sum payment. I will get $40,000 immediately and we part ways permanently. I can rollover the entire amount to IRA, so no tax problem for now.
2. Opt this option and I will get $180 per month starting now until I live
3. Do nothing, I will get $750/month starting age 65

To me, 40K lump sum now is not as important as $750/month starting age 65 - when I need the money most. But I feel the best thing to do is to opt for lump sum and invest in index plans. My reasoning is this: One, If the company goes kaput (very less chance) I don't know what will happen to pension plan. Two if something to happen to me before 65, at least my family already got the money. If I take the money and put in moderate allocation that yields even a modest 5%, in 20 years this 40K grows to 106K, which equates to 12 years of $750/month.

Am I thinking correctly? Please let me know what you would advice, and if you say option 1, how/what funds should I allocate the lump sum? Thanks in advance.

Mike

Valuethinker
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Re: Pension: Lumpsum or leave it for retirement

Post by Valuethinker » Sat Sep 30, 2017 6:59 am

The methodology is to find out what an SPIA annuity at retirement age would cost to provide the equivalent pension.

Taking into account any impaired life expectancy (eg family history) and also any spousal benefit. Spousal benefit usually makes these things quite a bit more valuable. Significantly impaired life expectancy usually means you should take the lump sum-- if that's looking at your parents it has to be something fairly serious that is definitely genetic not lifestyle however if you have a diagnosis yourself that's different.

Then you see what rate of return, compounded pa from now, would take your lump sum now to that lump sum you would need at retirement age to buy an equivalent pension. As a trivial example if you were 12 years to retirement and the lump sum then was $100k and 50k now, that's 6% pa return.

Then you see if that rate of return is reasonable. Anything more than 5% in my view, the pension is likely to be better than the lump sum. However if you have a need to pass capital on to your descendants or other factors, then that may still tip you towards the lump sum.

#Cruncher has a spreadsheet he/she has set up, and it's worth searching on previous threads of this type.

grok87
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Re: Pension: Lumpsum or leave it for retirement

Post by grok87 » Sat Sep 30, 2017 7:05 am

country5rs wrote:
Fri Sep 29, 2017 11:47 pm
I left a company about 5 years ago, but I had enough service that I got vested into pension plan when I left. Based on their calculation, I am to get about $750 every month when I turn 65 - which is 20 years from now. Recently I got a mail from the pension plan stating I now have few options.
1. Opt for lump sum payment. I will get $40,000 immediately and we part ways permanently. I can rollover the entire amount to IRA, so no tax problem for now.
2. Opt this option and I will get $180 per month starting now until I live
3. Do nothing, I will get $750/month starting age 65

To me, 40K lump sum now is not as important as $750/month starting age 65 - when I need the money most. But I feel the best thing to do is to opt for lump sum and invest in index plans. My reasoning is this: One, If the company goes kaput (very less chance) I don't know what will happen to pension plan. Two if something to happen to me before 65, at least my family already got the money. If I take the money and put in moderate allocation that yields even a modest 5%, in 20 years this 40K grows to 106K, which equates to 12 years of $750/month.

Am I thinking correctly? Please let me know what you would advice, and if you say option 1, how/what funds should I allocate the lump sum? Thanks in advance.

Mike
Hi MIke and welcome to the forum.
THis question comes up a lot. As a general rule it is better to keep the pension i.e. NOT take the lump sum.
See this link for example
viewtopic.php?t=218067
cheers,
grok
"...people always live for ever when there is any annuity to be paid them"- Jane Austen

bklyn96
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Re: Pension: Lumpsum or leave it for retirement

Post by bklyn96 » Sat Sep 30, 2017 12:23 pm

country5rs wrote:
Fri Sep 29, 2017 11:47 pm
....If the company goes kaput (very less chance) I don't know what will happen to pension plan....
The Pension Benefit Guaranty Corporation is designed to take care of this problem.

I'm a former Lehman Brothers employee who had a vested pension benefit back in 2008 when the bankruptcy occurred. The PBGC performance has been flawless. https://www.pbgc.gov/wr/benefits/guaranteed-benefits

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#Cruncher
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Re: Pension: Lumpsum or leave it for retirement

Post by #Cruncher » Sat Sep 30, 2017 7:52 pm

Valuethinker wrote:
Sat Sep 30, 2017 6:59 am
The methodology is to find out what an SPIA annuity at retirement age would cost to provide the equivalent pension. ... Then you see what rate of return, compounded pa from now, would take your lump sum now to that [annuity cost] ...
I wouldn't say this is "the" methodology, but it is "a" methodology, especially for someone who would purchase a commercial annuity in lieu of the pension. For example, ImmediateAnnuities.com shows a $138,000 premium buying a $750 monthly annuity for a 65-year old male. For $40,000 to grow to $138,000 over 20 years requires a 6.4% compounded growth rate [(138 / 40) ^ (1 / 20) - 1]. This is more than one could reasonably expect with risk comparable to the pension.

Another evaluation method would be to compare the $750 monthly amount to that of a commercial deferred annuity. For example, ImmediateAnnuities.com shows $40,000 buying a $463 monthly annuity beginning in 20 years for a 45-year old male. The pension option is clearly better.
Valuethinker in same post wrote:#Cruncher has a spreadsheet he ... has set up ...
For someone unsure if he would buy a commercial annuity, another evaluation method is to compute the return the lump sum would need to match the estimated survival-weighted benefits of the pension. My longevity estimator spreadsheet that Valuethinker mentions can do that.

For example, either by trial and error or using Excel's Goal Seek, it shows the $40,000 lump sum would need a 4.4% return to provide $750 per month beginning in 20 years for a 45-year old male, survival-weighted according to the SSA 1970 Cohort Life Table. The return would have to be 4.9% if the pensioner is female.

grok87
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Re: Pension: Lumpsum or leave it for retirement

Post by grok87 » Sat Sep 30, 2017 9:03 pm

#Cruncher wrote:
Sat Sep 30, 2017 7:52 pm


Another evaluation method would be to compare the $750 monthly amount to that of a commercial deferred annuity. For example, ImmediateAnnuities.com shows $40,000 buying a $463 monthly annuity beginning in 20 years for a 45-year old male. The pension option is clearly better.
Valuethinker in same post wrote:#Cruncher has a spreadsheet he ... has set up ...
For someone unsure if he would buy a commercial annuity, another evaluation method is to compute the return the lump sum would need to match the estimated survival-weighted benefits of the pension. My longevity estimator spreadsheet that Valuethinker mentions can do that.

For example, either by trial and error or using Excel's Goal Seek, it shows the $40,000 lump sum would need a 4.4% return to provide $750 per month beginning in 20 years for a 45-year old male, survival-weighted according to the SSA 1970 Cohort Life Table. The return would have to be 4.9% if the pensioner is female.
very interesting thanks. the 4% rates make sense because i think this is consistent with how corporate pension funds calculate the lump sum. they discount the pension cash flows at long term corporate bond yields.
here is a link to the current rates
https://www.irs.gov/retirement-plans/mi ... ment-rates

this is of course in general a bad deal because your actual pension is really a treasury-like security. so from the pensioner's perspective it should be discounted at treasury yields. if that were done the value would be higher, above $60,000 as the math in the quote points out.

cheers,
grok
"...people always live for ever when there is any annuity to be paid them"- Jane Austen

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Watty
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Re: Pension: Lumpsum or leave it for retirement

Post by Watty » Sat Sep 30, 2017 10:26 pm

grok87 wrote:
Sat Sep 30, 2017 7:05 am
THis question comes up a lot. As a general rule it is better to keep the pension i.e. NOT take the lump sum.
I don't think that it is that clear cut especially for someone that is 20 years from retirement and the pension is not adjusted for inflation.

You can turn the question around and ask, "I have $40K in an IRA, should I buy a deferred annuity with that which starts in 20 years?" Few people would be very tempted by that even if the numbers made it look like a good deal.

Part of an old saying is, "Buying an elephant for a dime is only a good deal if you need an elephant."

Beehave
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Re: Pension: Lumpsum or leave it for retirement

Post by Beehave » Sat Sep 30, 2017 10:34 pm

My opinion - - this is an easy decision.

Unknowns over next 20 years: deflation or inflation, market up or down? We don't know. Inflation and market up = better to take and invest the lump sum. Deflation and market down = better to take the annuity. The choice is something of a coin toss based on these unknowns.

Almost surely certain over next 20 years: Big time life expectancy increase. This will make annuities much more costly to providers and much more beneficial to owners.

Give the unknowns and knowns, I'd say take the annuity.

ryman554
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Re: Pension: Lumpsum or leave it for retirement

Post by ryman554 » Sun Oct 01, 2017 2:36 pm

Beehave wrote:
Sat Sep 30, 2017 10:34 pm
Almost surely certain over next 20 years: Big time life expectancy increase. This will make annuities much more costly to providers and much more beneficial to owners.
Huh? This is absolutely NOT certain. What data are you using to support your belief, given the significant majority of life expectancy increase historically has been in infant mortality, not pushing out the death of those that already made it to 65...

I know, modern medicine and all that, so this time will be different, but...

Valuethinker
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Re: Pension: Lumpsum or leave it for retirement

Post by Valuethinker » Sun Oct 01, 2017 5:05 pm

ryman554 wrote:
Sun Oct 01, 2017 2:36 pm
Beehave wrote:
Sat Sep 30, 2017 10:34 pm
Almost surely certain over next 20 years: Big time life expectancy increase. This will make annuities much more costly to providers and much more beneficial to owners.
Huh? This is absolutely NOT certain. What data are you using to support your belief, given the significant majority of life expectancy increase historically has been in infant mortality, not pushing out the death of those that already made it to 65...

I know, modern medicine and all that, so this time will be different, but...
My thought was the rise in antibiotic resistance and also the very high risk of zoonautic plagues.

We are ill equipped to handle either.

I believe statistically what you say is true.

Beehave
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Re: Pension: Lumpsum or leave it for retirement

Post by Beehave » Mon Oct 02, 2017 1:09 pm

Valuethinker wrote:
Sun Oct 01, 2017 5:05 pm
ryman554 wrote:
Sun Oct 01, 2017 2:36 pm
Beehave wrote:
Sat Sep 30, 2017 10:34 pm
Almost surely certain over next 20 years: Big time life expectancy increase. This will make annuities much more costly to providers and much more beneficial to owners.
Huh? This is absolutely NOT certain. What data are you using to support your belief, given the significant majority of life expectancy increase historically has been in infant mortality, not pushing out the death of those that already made it to 65...

I know, modern medicine and all that, so this time will be different, but...
My thought was the rise in antibiotic resistance and also the very high risk of zoonautic plagues.

We are ill equipped to handle either.

I believe statistically what you say is true.
You're right that there could be some black swan biological or other event. And it's also true that the life-expectancy gains from biological and technological advances are, across the population, mitigated by opioid and other factors. So I'll revise my thought about annuities in the following way. Among the subset of the population likely to actually purchase an annuity, life expectancies can be expected to rise (and my guess is significantly so). No doubt, actuaries are not oblivious to this concept and presumably are attempting to price this factor in appropriately. Circa 2000-2005 these actuaries undershot long-term care costs, and my thought is that they are likely doing a similar actuarial mess-up based upon the knee of the curve progress stage we're at now with cancer and heart disease and in general with genetics and rapid situational and response calculation capabilities.

Your suspicion that this is my personal opinion (somewhat informed, but certainly a lay person's) is correct and others may well disagree. I'll leave it out there as what I consider a strong but certainly fallible reason for a middle aged person today to grab an annuity. However, full disclosure, I also expect inflation odds are much greater than deflation, which mitigates against long-term pre-purchase of an annuity. Given someone today with good life expectancy and solid career longevity potential, I'd say take the annuity as a diversifier that may become much more difficult to obtain in the future and if it bombs you still have all your other future income and savings to absorb the blow.

You made me think more clearly about what my position is, and that is a welcome thing, and I'm certainly open to further discussion.

ralph124cf
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Re: Pension: Lumpsum or leave it for retirement

Post by ralph124cf » Mon Oct 02, 2017 3:23 pm

How much is $750 /mo. likely to mean to you in 20 years? I'm guessing not much.

I would take the lump sum and invest per my IPS.

Ralph

grok87
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Re: Pension: Lumpsum or leave it for retirement

Post by grok87 » Tue Oct 03, 2017 2:36 pm

ralph124cf wrote:
Mon Oct 02, 2017 3:23 pm
How much is $750 /mo. likely to mean to you in 20 years? I'm guessing not much.

I would take the lump sum and invest per my IPS.

Ralph
Well i also have a small deferred pension from a former employer so let me give another perspective.

I don't have a pension coming to me from my current employer when i retire. So building up a portfolio of retirement income will be a concern.

Insurance company annuities are problematic due to low levels of state insurance guarantee fund cover and lack of a federal or state guarantee.

$9,000 of federally guaranteed annual income is nothing to sneeze at!
"...people always live for ever when there is any annuity to be paid them"- Jane Austen

Valuethinker
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Re: Pension: Lumpsum or leave it for retirement

Post by Valuethinker » Wed Oct 04, 2017 2:54 am

grok87 wrote:
Tue Oct 03, 2017 2:36 pm
ralph124cf wrote:
Mon Oct 02, 2017 3:23 pm
How much is $750 /mo. likely to mean to you in 20 years? I'm guessing not much.

I would take the lump sum and invest per my IPS.

Ralph
Well i also have a small deferred pension from a former employer so let me give another perspective.

I don't have a pension coming to me from my current employer when i retire. So building up a portfolio of retirement income will be a concern.

Insurance company annuities are problematic due to low levels of state insurance guarantee fund cover and lack of a federal or state guarantee.

$9,000 of federally guaranteed annual income is nothing to sneeze at!
The Default position should almost always be to keep the pension. Risk free secured income.

That would be my thought although there is no inflation protection in this number (we assume from what OP has said).

So it could have buying power of only $4500 at retirement, say (36 years at 2%) and less than $3k say at death.

The spousal benefit if included is usually quite valuable-- given (female) life expectancies most of us have spouses who will outlive us by an average of something like 5-6 years (I think that the average man marries a woman 2 years younger, and for the sort of middle class professionals most of us are, the average female life expectancy at 65 is c. 5 years greater?)

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