I'm investigating retirement in early 2017. Among the many decisions I have to make is how to take my pension. I've been analyzing each option. I'd appreciate feedback on whether I have considered everything, or left something important out of my musings.
Whichever pension option I choose, that's my irrevocable choice; no changes allowed for any reason.
Whichever option I choose, the pension has no COLA.
Single life annuity
I can claim a single life annuity of $x/month. I can start anytime between retirement and my 65th birthday. Assume for the moment I start when I retire at 59.
Pros:
- Easy to understand, easy to implement
- A verifiable income might make it easier to apply for credit cards, get a Mexican resident visa (just kidding, but it would have that effect) and other things of that nature once paychecks stop.
- My retirement state excludes some pension income from tax once I reach age 65. The exclusion is a little bit more than x*12 3.2x.
- The PBGC guarantee easily covers 'x' should Megacorp fail, although it is unclear it is fully covered for those retiring before age 65.
- I can have my COBRA health premium deducted from my pension rather than being billed for it.
- The annuity is a hedge against an unexpectedly long life.
Cons:
- Legal pension protections could erode, enabling Megacorp to seize pensions. Think Delta Airlines. If this is a genuine possibility, options I describe below could be more desirable.
- Pension plus taxable portfolio income puts me squarely in the 25% bracket. Maybe that puts a kibosh on Roth conversions?
Lump sum distribution
I can claim "L" as a lump sum with a lifetime annuity of .58x. I can pay taxes on L (putting me in the 28% bracket) or roll it into a traditional IRA. I'd put it into an IRA. Portfolio income + .58x puts me in the 15% tax bracket.
Pros:
- Once I have L in my possession, Megacorp can't seize it.
- My retirement state gives IRAs the same legal protections as 401Ks. I'm not sure how the law treats pension income.
- An IRA can name a beneficiary in the event I depart this world suddenly. No dependents, but I have relatives who wouldn't mind the inheritance.
- I could invest L in the three fund portfolio or an income portfolio and transform .42x into an inflation adjusted pension.
- I can pay myself more or less than .42x should circumstances require.
- I could purchase an income annuity in a rollover IRA. Income annuities in IRAs are not subject to RMDs. Income annuities with COLAS can be purchased.
- .58x still covers my COBRA premium, so I can still have that deducted from my pension
Cons:
- L would have to earn 10% annually to give myself .42x/month withdrawals for 30 years.
- If L earns 4% annually, the .42x/month payout lasts only 16 years.
- Markets could hand my head to me, and I could lose a large percent of L early in retirement.
- If I used L to buy an annuity in an IRA,
- I'd have to defer to age 65 to get a lifetime .42x payment
- I'd have to accept a payment of .28x if I wanted income to start when the .58x starts.
- I'd have to accept longer deferrals or lower payouts to obtain a COLA
- I can't tap L's IRA before 2018 due to my age
- I could end up spending L in Prodigal Son fashion (Is this really a con? )
Lump sum revisited
I could accept a smaller L ("l" -- see what I did with that? ) and a larger annuity. The annuity would be smaller than x. I'd have to call the plan for actual percents.
Pros:
- I could get a larger annuity than .58x, yet access a lump sum.
- I can pick any l such that 14,000 < l < L.
- Perhaps l is small enough to pay the taxes and so avoid yet another IRA account
- It's hard to model since I have to call the plan for each possible l value.
- If I'm truly worried about Megacorp seizing or reducing my pension, it is better
to claim L.
Income leveling
I can request 'income leveling'. Megacorp gives me 1.58x/month until age 62, then it cuts to .75x with the understanding .75x + SS at age 62 = x. There's a range of income leveling options depending on whether I want to claim SS at 62 or any year up to age 67.
"Once you elect this option, the Megacorp benefit payment amounts will not be changed, regardless of the actual amount you receive from Social Security or when Social Security payments commence."
Pros:
- I would enjoy SS income level in early retirement before I actually receive SS.
- I could delay drawing heavily on savings early in retirement
- It would be easier to delay claiming Social Security, allowing the benefit to grow.
- I would have a more stable income through the first decade of retirement
Cons:
- I have to decide when I claim my pension at age 59 what age I will take Social Security. If my actual SS date and benefit differ from what I specify on the claim form, I can't change the payout option.
- Income leveling from ages 68 to age 70 is not available.
- My 1.5x pension alone would put me solidly in the 25% federal bracket from day one of retirement, forfeiting some lower tax IRA and 401K distribution opportunities.
- My retirement state excludes a certain amount of pension income from taxation once you reach age 65, so I'd be accelerating the pension from relative tax efficiency into tax inefficiency.
- If Social Security law changes so as to reduce my benefit, Megacorp is not going to increase my .75x pension to compensate.
- Some leveling ages seem to pay out more generously than others, so the options aren't neutral. I'd have to do a spread sheet to decide which leveling age is optimal for maximizing lifetime pension income.
- Retirees tell me it's discouraging when that pension cut occurs, even though you have been expecting it for years
Single life annuity revisited
I have the option of delaying my pension up to my 65th birthday.
Pros:
- X increases to about 1.06 of its initial value if I hold out to age 65. .06x/month buys me a nice hotel room on the road, or handily pays my utilities and internet, or pays my lawn guy at the height of mowing season.
- At age 65, my pension becomes mostly state tax free (1.06x is a little more than the exclusion amount)
- Lower fixed income in early retirement enables lower taxes on Roth conversions and 401k distributions.
- Lower income in early retirement could even lead to a subsidized ACA policy once COBRA expires
Cons:
- From ages 59-62, I'd have to draw more heavily on savings. Sequence of returns risk and all that!
- As with SS, who's to say I will live to age 65? No guarantees in life and neither of my parents made it to age 65!
- I would surely be tempted to claim SS before FRA, much less wait to age 70. Did I mention my state does not tax SS at any age?
- It's probably more fun to have cash flow at age 59 than to wait until 65.
So what do you think? Have I missed anything? Any wrong thinking?
Thanks!