Best Alternative to a Pension (DB )

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antiqueman
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Best Alternative to a Pension (DB )

Post by antiqueman » Sun Apr 22, 2018 9:36 am

I read a thread yesterday about a forum member's employer freezing his and other employees pension near his retirement date. The thread reminded me how fragile the guarantee of a DB pension may be for many.

I posted a question 2 weeks ago , seeking advice on whether I should buy back abut 7 years of state time, to increase my monthly state retirement amount about 500.00 a month. All who responded said it was a no brainer for me to do it even though the cost was about 90k to me in pretax dollars.

From a mathematical view I agree totally with those who suggested I purchase the 7 years back. However, I did not advise anyone in my initial post that the state pension as of 2017 is only 60% funded. I did not provide that information because I did not want to have that factor considered as to whether mathematically I should purchase buy the time back.

In light of all the responses to the poster whose pension is being frozen, many people responded that even if the pension is frozen he still might not receive what he was promised, as the rules can be changed at any time. Even if the rules aren't changed , if the company goes belly up, the pension cant be paid.

Millions of people face the following questions, or one similar to it, " If I do not receive my DB benefit as promised what is the BEST alternative for me to take to try to match what I would have received as closely as possible"

This question is more complicated if one's pension was to be cost of living adjusted.

One could buy a TIPS for each year in the amount of the projected pension, but you don't know how long you will live. Thus you could over buy or under buy years of TIPS. I do not believe that a percentage of stocks to bonds can solve the problem. They are to volatile .

So for those who want to at least try to replicate what they are promised to receive in a DB pension what are best one or two alternatives, realizing that nothing will actually do the job that a secure DB would provide.

Thanks.

ResearchMed
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Re: Best Alternative to a Pension (DB )

Post by ResearchMed » Sun Apr 22, 2018 9:41 am

antiqueman wrote:
Sun Apr 22, 2018 9:36 am
I read a thread yesterday about a forum member's employer freezing his and other employees pension near his retirement date. The thread reminded me how fragile the guarantee of a DB pension may be for many.

I posted a question 2 weeks ago , seeking advice on whether I should buy back abut 7 years of state time, to increase my monthly state retirement amount about 500.00 a month. All who responded said it was a no brainer for me to do it even though the cost was about 90k to me in pretax dollars.

From a mathematical view I agree totally with those who suggested I purchase the 7 years back. However, I did not advise anyone in my initial post that the state pension as of 2017 is only 60% funded. I did not provide that information because I did not want to have that factor considered as to whether mathematically I should purchase buy the time back.

In light of all the responses to the poster whose pension is being frozen, many people responded that even if the pension is frozen he still might not receive what he was promised, as the rules can be changed at any time. Even if the rules aren't changed , if the company goes belly up, the pension cant be paid.

Millions of people face the following questions, or one similar to it, " If I do not receive my DB benefit as promised what is the BEST alternative for me to take to try to match what I would have received as closely as possible"

This question is more complicated if one's pension was to be cost of living adjusted.

One could buy a TIPS for each year in the amount of the projected pension, but you don't know how long you will live. Thus you could over buy or under buy years of TIPS. I do not believe that a percentage of stocks to bonds can solve the problem. They are to volatile .

So for those who want to at least try to replicate what they are promised to receive in a DB pension what are best one or two alternatives, realizing that nothing will actually do the job that a secure DB would provide.

Thanks.
Why would an SPIA (Single Payment Immediate Annuity) not "do the job that a secure DB would provide", at least for a no COLA'd DB/SPIA?

One could spread it over several insurers, for additional safety, not exceeding any state "guarantee" (NOT really a guarantee, but close) per insurer.

RM
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stlrick
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Re: Best Alternative to a Pension (DB )

Post by stlrick » Sun Apr 22, 2018 9:50 am

See M. A. Milevsky and A. C. Macqueen, "Pensionize Your Nest Egg" 2nd edition. Wiley, 2015.

An SPIA (single premium immediate annuity) is a good answer under many circumstances. They can be laddered, and as ResearchMed notes, spread over several insurers.

The fear of insurance company failure and exceeding the state guarantee is overstated and discussed as if it would happen as an isolated event. If your SPIA from a large, well-rated insurance company fails (or more likely, simply delays or reduces payments), what do you think is happening in the rest of the investment world?

antiqueman
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Re: Best Alternative to a Pension (DB )

Post by antiqueman » Sun Apr 22, 2018 9:52 am

This would come close, but normally you would not receive the same benefit from a SPIA that you would from a DB. It would cost more to get the same benefit with a SPIA.

Also where a State DB is at issue, I think most would agree that a State DB is (unless the State changes the rules) more secure than any company. At least a state could raise taxes if it had the political will to do so.

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ruralavalon
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Re: Best Alternative to a Pension (DB )

Post by ruralavalon » Sun Apr 22, 2018 10:03 am

I don't think you can get a DB pension alternative better than Single Premium Immediate Annuities.
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cherijoh
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Re: Best Alternative to a Pension (DB )

Post by cherijoh » Sun Apr 22, 2018 10:13 am

antiqueman wrote:
Sun Apr 22, 2018 9:52 am
This would come close, but normally you would not receive the same benefit from a SPIA that you would from a DB. It would cost more to get the same benefit with a SPIA.

The fact that it would be more expensive doesn't negate the fact that a SPIA would be the best alternative to a DB pension. You can certainly buy one to give you the same monthly payment. The challenge of course is finding the money to do so.

antiqueman wrote:
Sun Apr 22, 2018 9:52 am
Also where a State DB is at issue, I think most would agree that a State DB is (unless the State changes the rules) more secure than any company. At least a state could raise taxes if it had the political will to do so.
Whenever i see a post about buying credits in a state DB pension plan, I wonder if the pension fund is borrowing from Peter to pay Paul because the state department of revenue doesn't have the political will to raise taxes. States are already getting squeezed on multiple fronts - especially considering projected federal deficts.

tibbitts
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Re: Best Alternative to a Pension (DB )

Post by tibbitts » Sun Apr 22, 2018 10:37 am

There is no alternative, because the DB pension provides an unsustainable amount of income per dollar invested. Other plans you can buy won't offer that. So it comes down to whether the sponsor of the plan will make up for the shortfall. With other annuities you get about the same investment returns backing the payments to you; you just don't have the chance at the bonus from the outside subsidy.

cherijoh
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Re: Best Alternative to a Pension (DB )

Post by cherijoh » Sun Apr 22, 2018 10:48 am

tibbitts wrote:
Sun Apr 22, 2018 10:37 am
There is no alternative, because the DB pension provides an unsustainable amount of income per dollar invested. Other plans you can buy won't offer that. So it comes down to whether the sponsor of the plan will make up for the shortfall. With other annuities you get about the same investment returns backing the payments to you; you just don't have the chance at the bonus from the outside subsidy.

Alternative does NOT mean that it is the same or has the same value. See the dictionary definition below. There is almost always more than one choice or option, which is what the OP was seeking - the next best option.
NOUN
one of two or more available possibilities.
"audiocassettes are an interesting alternative to reading" · [more]
synonyms: option · choice · other possibility · substitute · replacement · proxy · [more]

MrPotatoHead
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Re: Best Alternative to a Pension (DB )

Post by MrPotatoHead » Sun Apr 22, 2018 10:58 am

I believe the answer depends on why you want the equivalent of a pension in the first place, which to the best of knowledge you have not posted. A steady income stream that you are unlikely to outlive can be had through several means with various pluses and minuses. Considerations such as the desire to leave a legacy can weigh in heavily.

A SPIA will give you mortality credits, so if squeezing every last drop of potential income out of your assets for monthly living expenses is the objective that may be your answer, though unlike many I am less optimistic about the future health of pensions.

If simply having stable cash flows to cover basic expenses then of course a SPIA to cover basic expenses and then investing the rest is appealing to many.

For some legacy considerations are important as well as the psychological aspect of not losing or spending that which one already has, the concept of creating a ladder of CDS in combination with equity investments may be very appealing. By taking the NPV and buying the CDs while investing the difference between the future value of the CDs and the NPV in equity index funds you guarantee requisite cash flow, create the illusion of never having spent a dime, buffer against inflation and also have a great chance of leaving a large legacy. The disadvantage is this requires a large amount of actual money up front to implement and assumes you are at a high multiple of expenses in the first place. I like this approach very much for the risk adverse.

If the portfolio is large enough and legacy considerations are very important, I strongly favor simply setting aside 10-15 years of expenses in CDs, short term bonds, cash etc and simply investing the rest in equities. This works especially well in the 25-50 (and up) times expenses range.

Cheers...

Dottie57
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Re: Best Alternative to a Pension (DB )

Post by Dottie57 » Sun Apr 22, 2018 11:08 am

At age 65, 90k would buy about 500 a month . Might be better than buying into the pension which is 60% funded.

Try immediateannuities.com.

carolinaman
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Re: Best Alternative to a Pension (DB )

Post by carolinaman » Mon Apr 23, 2018 6:22 am

You need to compare your options. One is to buy the 7 years of time at $90k and two is to buy an SPIA with that money. How do they compare? Does your pension have a COLA? COLAs are very expensive in SPIAs. Will buying this time back enable you to retire sooner? That is often a consideration. Does the pension buyback result in other benefits, i.e. more vacation, other perks? I bought 5 years time back from my state pension and got more vacation plus an increase in my longevity pay.

Public pension funds have greater protection than private pension funds. Most public pension funds are required to be paid by state law and constitutions. Even so, a 60% funded pension is at greater risk to result in some reduction in benefits in the future. If you retirement is a long way in the future, then you are at greater risk than if your retirement is planned for the next few years.

The bottomline is that your decision is based upon a risk reward assessment of your options.

grok87
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Re: Best Alternative to a Pension (DB )

Post by grok87 » Mon Apr 23, 2018 8:32 am

stlrick wrote:
Sun Apr 22, 2018 9:50 am
The fear of insurance company failure and exceeding the state guarantee is overstated and discussed as if it would happen as an isolated event. If your SPIA from a large, well-rated insurance company fails (or more likely, simply delays or reduces payments), what do you think is happening in the rest of the investment world?
Thanks strick.

It would be interesting to see the data on this. There have been a few high profile failures in the us and the uk. Executive life and the equitable (uk) spring to mind. There were also several near misses in the global financial crisis. Hartford and lincoln took tarp money.

If one follows swensen your bond money should be in treasuries and tips and so hedged against some financial crisis scenarios, treasuries against deflation and tips against stagflation.

The main issue with state guarantee funds is that they are not state guaranteed (confusing right) and are not pre-funded but postfunded by assessments on other life insurance companies doing business in the state.so not exactly like fdic insurance.
My own view is that one may want to take a measured bet here. If you don't have a pension, build a tips ladder and live off that say till 80. Then take what remains of it and buy an inflation indexed annuity.
Keep calm and Boglehead on. KCBO.

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midareff
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Re: Best Alternative to a Pension (DB )

Post by midareff » Mon Apr 23, 2018 8:48 am

The way I approached any need for alternative was the solidity of the plan. In this link dated 2017 but using 2014 data various state pension plans are ranked. https://taxfoundation.org/state-pensions-funding-2017/ The state of interest to me was ranked #10 at the time of the report and had taken steps to curtain COLA amounts for those not retired at that time ... ie: .1% per year of service annually to a max of 3% vs. the former 3%.

I would suspect, but do not know as fact that the last 4 years of market performance would increase the funded ratios of many of the states. If you are in a state rated (perhaps) in the top 25% of states I would like to think you have little to concern yourself with. A bottom 25% rated state you may have much to be concerned about and auxiliary plans may be needed (or not).

As far as what auxillary plan.. it would take far too much information here to make a recommendation.

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