## Lump sum vs Pension

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Topic Author
rando!
Posts: 6
Joined: Sun Feb 10, 2019 6:20 pm

### Lump sum vs Pension

Hi everyone,

EDIT: Adding that the company is Boeing. Also adding that here are no COLA the \$867 is fixed. I'm leaving the company today and am fully vested. The \$867 is with 100% survivor benefits for my wife (no survivor benefits the monthly payment is \$950).

I'm 41. I have the option of a lump sum or to take a pension when I'm 65, so 24 years away. The lump sum today is 35K. The monthly pension amount is \$867 per month or \$10,400 per year. I put my numbers into the calculator which is below. I just want to make sure I did this correctly. I pasted the numbers from the spreadsheet below. Sorry I couldn't figure out to paste the image.

From what I'm seeing the lump sum would be a better option. Any advice would be appreciated. Thanks!

Lump sum now PV \$35,000
Payment starting now Pmt_now \$0 \$/payment
Interest rate i 7.00% /yr
number of years until annuity begins n 24 yr
number of payments/year freq 1 /yr
When payments are made for each n type 0 0 = at end, 1 = at start
Future Value FV \$177,532.84

Interest generated by Future Value FV(i,n,P) * i \$12,427 \$/payment
Longevity of future annuity L 25 yr
Constant withdrawal of FV over time L Pmt_future \$15,234 \$/payment

Spending growth rate (e.g., CPI) g 2.0% /yr
First year (of 25) Trinity-style withdrawal W(FV,L,i,g) \$12,722.36 \$/yr
\$12,722.36 \$/payment
Last edited by rando! on Sat Oct 05, 2019 12:03 am, edited 4 times in total.

6Pack
Posts: 174
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Location: In a van down by the river

### Re: Lump sum vs Pension

As a general rule of thumb, every \$100/month in pension income is worth \$18,000. So \$867 would be worth approximately \$154,800.

However, a pension can help negate sequence of returns risk and allow you to keep more investments in stocks (as opposed to bonds) because you have the extra pension payments to help in a down market.

I would keep it and not cash because it helps diversify holdings.

Also, how many people offer you a deal where the offeror is on the losing end of the transaction? Somehow, the lump sum offered is benefitting the company (probably by getting the liability off the books).

FiveK
Posts: 7859
Joined: Sun Mar 16, 2014 2:43 pm

### Re: Lump sum vs Pension

rando! wrote:
Thu Oct 03, 2019 9:27 pm
Hi everyone,

I'm 41. I have the option of a lump sum or to take a pension when I'm 65, so 24 years away. The lump sum today is 35K. The monthly pension amount is \$867 per month or \$10,400 per year. I put my numbers into the calculator which is below. I just want to make sure I did this correctly. I pasted the numbers from the spreadsheet below. Sorry I coudn't figure out to paste the image.

From what I'm seeing the lump sum would be a better option. Any advice would be appreciated. Thanks!
Yes, if you earn 7%/yr the lump sum would be better.

If you earn 5%/yr the three ways of looking at it are

Code: Select all

``````Interest generated by Future Value		\$5,644 	\$/yr
Constant withdrawal of FV over 25 years		\$8,009 	\$/yr
First year (of 25) Trinity-style withdrawal	\$6,569 	\$/yr``````
and that suggests the pension would be better. But then there's the question of the pension provider's stability.

In other words, you pays your money and you takes your chance - whichever way you decide. Happy crystal ball gazing!

Rob5TCP
Posts: 3386
Joined: Tue Jun 05, 2007 7:34 pm
Location: New York, NY

### Re: Lump sum vs Pension

I went to the immediate annuities payout calculator site
and put in \$35k at age 41 and collecting in 24 years.
I came out with \$358 per month with no survivor balance.

https://www.immediateannuities.com/

You can try various scenarios on your own.
As mentioned, this assumes very strong financials
for the firm backing your pension.

NMBob
Posts: 253
Joined: Thu Apr 23, 2015 8:13 pm

### Re: Lump sum vs Pension

as 6 pack said. some money in a pension, especially if it has col/inflation increases should provide some diversification. also, while this may not apply, a fairly large number of people should just never be given a big junk of money at one time, for multiple reasons.

retired@50
Posts: 677
Joined: Tue Oct 01, 2019 2:36 pm

### Re: Lump sum vs Pension

This is a tough one as you may have gathered by now... The best answer can only be known in hindsight. In my case, I took the lump sum and added it to my Rollover IRA and haven't looked back. I didn't want to worry about the employer going out of business, or relying on the PBGC (government) to pay my pension benefits. Plus, I can invest the funds as I see fit. The diversification argument is sound, but it does expose you to a different set of risks, other than stock market risk.

bertilak
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Location: East of the Pecos, West of the Mississippi

### Re: Lump sum vs Pension

retired@50 wrote:
Fri Oct 04, 2019 11:22 am
The diversification argument is sound, but it does expose you to a different set of risks, other than stock market risk.
Isn't the point of diversification to diversify risks?
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

retired@50
Posts: 677
Joined: Tue Oct 01, 2019 2:36 pm

### Re: Lump sum vs Pension

bertilak wrote:
Fri Oct 04, 2019 11:44 am
retired@50 wrote:
Fri Oct 04, 2019 11:22 am
The diversification argument is sound, but it does expose you to a different set of risks, other than stock market risk.
Isn't the point of diversification to diversify risks?
I suppose so. But as I understand it, he's basically betting on the "company" to be there in 24 years, and beyond, throughout his retirement. In other words, this seems like he's taking on firm-specific risk, in hopes of avoiding market risk. If 35K is invested in a total stock market fund for 24 years the money could double 3 times between now and then, giving him 280K upon which to draw, making 867 per month seem kinda small. Just my 2 cents, which is why I took my lump sum payout... Regards,

bertilak
Posts: 6922
Joined: Tue Aug 02, 2011 5:23 pm
Location: East of the Pecos, West of the Mississippi

### Re: Lump sum vs Pension

retired@50 wrote:
Fri Oct 04, 2019 12:14 pm
bertilak wrote:
Fri Oct 04, 2019 11:44 am
retired@50 wrote:
Fri Oct 04, 2019 11:22 am
The diversification argument is sound, but it does expose you to a different set of risks, other than stock market risk.
Isn't the point of diversification to diversify risks?
I suppose so. But as I understand it, he's basically betting on the "company" to be there in 24 years, and beyond, throughout his retirement. In other words, this seems like he's taking on firm-specific risk, in hopes of avoiding market risk. If 35K is invested in a total stock market fund for 24 years the money could double 3 times between now and then, giving him 280K upon which to draw, making 867 per month seem kinda small. Just my 2 cents, which is why I took my lump sum payout... Regards,
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

Mickey7
Posts: 152
Joined: Tue Jun 20, 2017 1:52 pm

### Re: Lump sum vs Pension

Here is the good news! At 41 you are not waiting until retirement is knocking at your door. Many things can and will happen in the intervening years.
A pension with SS will go a long way toward mitigating any issue associated with risks on sequence of returns. It is a return that keeps on giving therefore increasing your diversification.
An item that is worth considering though is the strength and stability of the institution providing your pension. For this you will need to do your due diligence. Also understand your options if you have to change careers. Hopefully you are, or will be, fully vested if this should occur.
For those who have taken a lump sum in the last 10 years and fully reinvested it into the market they have done quite well in their choice.
My crystal ball is quite hazy and my pension is quite assured (Texas Retirement System) and so I took the bird in hand this year when I retired and took the pension this year.

Good luck and keep on investing.

retired@50
Posts: 677
Joined: Tue Oct 01, 2019 2:36 pm

### Re: Lump sum vs Pension

bertilak wrote:
Fri Oct 04, 2019 12:22 pm
retired@50 wrote:
Fri Oct 04, 2019 12:14 pm
bertilak wrote:
Fri Oct 04, 2019 11:44 am
retired@50 wrote:
Fri Oct 04, 2019 11:22 am
The diversification argument is sound, but it does expose you to a different set of risks, other than stock market risk.
Isn't the point of diversification to diversify risks?
I suppose so. But as I understand it, he's basically betting on the "company" to be there in 24 years, and beyond, throughout his retirement. In other words, this seems like he's taking on firm-specific risk, in hopes of avoiding market risk. If 35K is invested in a total stock market fund for 24 years the money could double 3 times between now and then, giving him 280K upon which to draw, making 867 per month seem kinda small. Just my 2 cents, which is why I took my lump sum payout... Regards,
A better way to diversify risk might be to buy a small rental home somewhere and try to be a landlord for the next 24 years. At least with rental real estate your income stream depends on finding a tenant with the ability to hold down a job and pay rent. In other words, it has nothing to do with the stock market. Regards,

TBillT
Posts: 799
Joined: Sat Sep 17, 2011 1:43 pm

### Re: Lump sum vs Pension

In our workplace the lump sum was popular in recent years due to low interest rates which payout a nicely larger lump sum amount.
There was a retirement plan change for the younger age group 50-ish and below so I am not sure if that impacted the choice. But basically it is hard to say now what will be best in the distant future.

Watty
Posts: 17641
Joined: Wed Oct 10, 2007 3:55 pm

### Re: Lump sum vs Pension

rando! wrote:
Thu Oct 03, 2019 9:27 pm
I put my numbers into the calculator which is below. I just want to make sure I did this correctly.
I might have missed it but I didn't see any inflation factor in your calculations.

It will vary greatly but with with the pension math the "breakeven point" is often if you live something like 10 to 15 years after you start the pension. That would put you at 75 to 80 years old which would be 34 to 39 years from now.

If the \$867 per month is not adjusted for inflation then it will not be worth a lot in 34+ years if there is even moderate inflation. If there are some years of high inflation before then it could be a pretty trivial amount.

By taking the pension you would be getting a LOT if inflation risk.

I would just take the lump sum and roll it into an IRA.

Wiggums
Posts: 1954
Joined: Thu Jan 31, 2019 8:02 am

### Re: Lump sum vs Pension

rando! wrote:
Thu Oct 03, 2019 9:27 pm
Hi everyone,

I'm 41. I have the option of a lump sum or to take a pension when I'm 65, so 24 years away. The lump sum today is 35K. The monthly pension amount is \$867 per month or \$10,400 per year. I put my numbers into the calculator which is below. I just want to make sure I did this correctly. I pasted the numbers from the spreadsheet below. Sorry I coudn't figure out to paste the image.

From what I'm seeing the lump sum would be a better option. Any advice would be appreciated. Thanks!

Lump sum now PV \$35,000
Payment starting now Pmt_now \$0 \$/payment
Interest rate i 7.00% /yr
number of years until annuity begins n 24 yr
number of payments/year freq 1 /yr
When payments are made for each n type 0 0 = at end, 1 = at start
Future Value FV \$177,532.84

Interest generated by Future Value FV(i,n,P) * i \$12,427 \$/payment
Longevity of future annuity L 25 yr
Constant withdrawal of FV over time L Pmt_future \$15,234 \$/payment

Spending growth rate (e.g., CPI) g 2.0% /yr
First year (of 25) Trinity-style withdrawal W(FV,L,i,g) \$12,722.36 \$/yr
\$12,722.36 \$/payment
Do you also need to factor in if the pension has COLA?

Does the pension also cover your spouse?

Valuethinker
Posts: 39069
Joined: Fri May 11, 2007 11:07 am

### Re: Lump sum vs Pension

rando! wrote:
Thu Oct 03, 2019 9:27 pm
Hi everyone,

I'm 41. I have the option of a lump sum or to take a pension when I'm 65, so 24 years away. The lump sum today is 35K. The monthly pension amount is \$867 per month or \$10,400 per year. I put my numbers into the calculator which is below. I just want to make sure I did this correctly. I pasted the numbers from the spreadsheet below. Sorry I coudn't figure out to paste the image.

From what I'm seeing the lump sum would be a better option. Any advice would be appreciated. Thanks!

Lump sum now PV \$35,000
Payment starting now Pmt_now \$0 \$/payment
Interest rate i 7.00% /yr
number of years until annuity begins n 24 yr
number of payments/year freq 1 /yr
When payments are made for each n type 0 0 = at end, 1 = at start
Future Value FV \$177,532.84

Interest generated by Future Value FV(i,n,P) * i \$12,427 \$/payment
Longevity of future annuity L 25 yr
Constant withdrawal of FV over time L Pmt_future \$15,234 \$/payment

Spending growth rate (e.g., CPI) g 2.0% /yr
First year (of 25) Trinity-style withdrawal W(FV,L,i,g) \$12,722.36 \$/yr
\$12,722.36 \$/payment
Use an spia calculator to calculate cost of that pension at age 65 now.

Survivor benefits can be quite valuable as well.

Then take cost of spia divided by lump sum now and calculate cagr.

See if that is better than you can do about the same or worse. Figuring a 60 40 portfolio might do 6 per cent a year before inflation. Or 5 say.

vineviz
Posts: 5391
Joined: Tue May 15, 2018 1:55 pm

### Re: Lump sum vs Pension

rando! wrote:
Thu Oct 03, 2019 9:27 pm
Hi everyone,

I'm 41. I have the option of a lump sum or to take a pension when I'm 65, so 24 years away. The lump sum today is 35K. The monthly pension amount is \$867 per month or \$10,400 per year. I put my numbers into the calculator which is below. I just want to make sure I did this correctly. I pasted the numbers from the spreadsheet below. Sorry I coudn't figure out to paste the image.

From what I'm seeing the lump sum would be a better option. Any advice would be appreciated. Thanks!
The two problems with trying to compute the PV of an annuity yourself is that most people use too high of a discount rate (7% is way too high) and no one at age 41 knows how long they will live.

One thing we can see, as others have pointed out, is that if you tried to buy an annuity in the open market with a income equivalent to the pension option then your \$35k would get you only about \$350 to \$445 per month in income. That's about half the value of your pension option which, if nothing else, should reinforce that your calculations are off.

My advice (which I wish I'd followed myself, having taken a lump sum not too long ago) is to take the pension option and not the lump sum. Assuming the (I presume) employer has a high credit rating, the pension is quite obviously the better choice purely on economic grounds.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

macheta
Posts: 151
Joined: Sat Nov 29, 2014 12:06 am

### Re: Lump sum vs Pension

vineviz wrote:
Fri Oct 04, 2019 8:13 pm
rando! wrote:
Thu Oct 03, 2019 9:27 pm
...
.... no one at age 41 knows how long they will live....
Surely you can make an estimate. I would take the medium age M/F in the country and use that as a baseline. Update the estimate based on your health situation today or risk which runs in the family.

vineviz
Posts: 5391
Joined: Tue May 15, 2018 1:55 pm

### Re: Lump sum vs Pension

macheta wrote:
Fri Oct 04, 2019 9:02 pm
vineviz wrote:
Fri Oct 04, 2019 8:13 pm
rando! wrote:
Thu Oct 03, 2019 9:27 pm
...
.... no one at age 41 knows how long they will live....
Surely you can make an estimate. I would take the medium age M/F in the country and use that as a baseline. Update the estimate based on your health situation today or risk which runs in the family.
An estimate can be made, but it's pretty complicated math. In addition to valuing the expected return using average or predicted mortality, you'd need to value the embedded call option associated with the chance of collecting the pension income for longer than the average life expectancy.

So IMO the best and easiest way to estimate the PV of a pension income stream is simply to price a private market annuity that produces the same income stream. In this case, the pension income is worth about twice as much as the lump sum payment making this - to my eyes - an easy decision to make.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

Topic Author
rando!
Posts: 6
Joined: Sun Feb 10, 2019 6:20 pm

### Re: Lump sum vs Pension

Thanks everyone. I added a little info to the original post. Sorry I didn't post it originally

Wiggums
Posts: 1954
Joined: Thu Jan 31, 2019 8:02 am

### Re: Lump sum vs Pension

My gut feeling is that the pension with spousal coverage is a better choice than the lump sum. It’s so far in the future and there are many variables, to say anything definitely. Based on my assumptions, I would select the pension.

#Cruncher
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Location: New York City
Contact:

### Re: Lump sum vs Pension

vineviz wrote:
Fri Oct 04, 2019 10:20 pm
An estimate [of the pension's present value] can be made, but it's pretty complicated math. In addition to valuing the expected return using average or predicted mortality, you'd need to value the embedded call option associated with the chance of collecting the pension income for longer than the average life expectancy.
A straightforward (albeit lengthy) way to estimate the pension's present value (PV) is to use a mortality table to calculate the survival-weighted-benefit (SWB) for every possible age. This implicitly takes into account the chance of living longer than the average life expectancy. There is no need to value this possibility separately.

To illustrate, according to the SSA 1980 Cohort Life Table, of 94,678 men alive at age 41: 82,993 (87.66%) will still be alive at age 65 and 81,912 (86.52%) a year later at age 66. Applying the average of these two percents against an \$11,400 annual pension [1] produces a SWB of \$9,928. Repeating this calculation for ages 65 to 115 produces the SWBs in the right column of the table below in rows 8 through 58.

If discounted by 5.111% [2] these SWBs have a PV of about \$113,000 at age 64.5 [3]. At the same discount rate this equates to a PV of about \$35,000 at age 41. (See cells C3 and C4 below.) This is another way of saying the pension has a probable return of 5.1% on the \$35,000 lump sum.

Code: Select all

``````Row Col A    Col B    Col C     Col D
1  Pmt / mo           950
2  Discount rate   5.111%  (determined by trial & error)
3  PV age 64.5    112,922  = NPV(C2, D8:D61)
4  PV now          34,998  = C3 / (1 + C2) ^ (A8 - A7 - 0.5)
Survival
---- Alive ----  Weighted
Age   Number  % of 41   Benefit``````

Code: Select all

``````  7    41   94,678
8    65   82,993   87.66%     9,928 = C\$1 * 12 * (C8 + C9) / 2
9    66   81,912   86.52%     9,792
10    67   80,737   85.28%     9,645
11    68   79,468   83.94%     9,487
12    69   78,107   82.50%     9,317
13    70   76,656   80.96%     9,137
14    71   75,105   79.33%     8,943
15    72   73,448   77.58%     8,738
16    73   71,691   75.72%     8,521
17    74   69,843   73.77%     8,293
18    75   67,906   71.72%     8,053
19    76   65,862   69.56%     7,800
20    77   63,698   67.28%     7,532
21    78   61,418   64.87%     7,252
22    79   59,032   62.35%     6,958
23    80   56,540   59.72%     6,651
24    81   53,941   56.97%     6,331
25    82   51,216   54.09%     5,993
26    83   48,328   51.04%     5,633
27    84   45,243   47.79%     5,250
28    85   41,956   44.31%     4,844
29    86   38,502   40.67%     4,421
30    87   34,939   36.90%     3,990
31    88   31,339   33.10%     3,559
32    89   27,774   29.34%     3,135
33    90   24,307   25.67%     2,727
34    91   20,992   22.17%     2,340
35    92   17,874   18.88%     1,978
36    93   14,987   15.83%     1,646
37    94   12,359   13.05%     1,347
38    95   10,007   10.57%     1,081
39    96    7,955    8.40%       853
40    97    6,211    6.56%       661
41    98    4,766    5.03%       504
42    99    3,599    3.80%       378
43   100    2,678    2.83%       279
44   101    1,962    2.07%       203
45   102    1,414    1.49%       145
46   103    1,001    1.06%       102
47   104      696    0.74%        70
48   105      474    0.50%        48
49   106      316    0.33%        31
50   107      206    0.22%        20
51   108      131    0.14%        13
52   109       81    0.09%         8
53   110       49    0.05%         5
54   111       29    0.03%         3
55   112       16    0.02%         2
56   113        9    0.01%         1
57   114        5    0.01%         0
58   115        2    0.00%         0``````
The methodology is the same for the \$867 per month 100% joint pension once we calculate the probability that either of two people is alive each year. I did this using my Longevity Estimator spreadsheet [4] for a male / female couple both age 41 using the same SSA mortality table. This option has a 5.75% return -- better than the single life option.
1. This is 12 times the \$950 single life pension mentioned in the original post.
2. The 5.111% rate can be determined either by trial and error or by using the Excel Goal Seek tool.
3. Since pensions are paid monthly, I assume the annual amount is paid mid-year. Therefore since the Excel NPV function assumes cash flows occur at the end of each year, when applied to cash flows at ages 65.5, 66.5, … 115.5 it produces a present value as of age 64.5.
4. Here are the entries on the Alive sheet to produce present values of \$34,998 and \$35,000 in cells N5 & O5 for the single and 100% joint life pensions:

Code: Select all

``````
Row     Col F    Col G  Col H  Col I     Col N    Col O  Row
1			        Age    \$950.00  \$867.00    1  Single/Joint monthly - only Pers 1 alive
2     Table	  Name    Sex  Years            \$867.00    2  Joint monthly - only Pers 2 alive
3  Cohort1980  Pers 1    M     41             \$867.00    3  Joint monthly - Both alive
4  Cohort1980  Pers 2    F     41     5.111%   5.748%    4  Discount rate
5                              24                        5  Present Value
Row     Col F    Col G  Col H  Col I     Col N    Col O  Row``````