Lump Sum -OR- Distributed Pension Payout?

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705 views

How to Decide which One to Take?

Your thoughts are appreciated?

Pensions
Retirement Planning
Investing
Dr. David E. M
63 months ago

3 answers

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In theory, it is a straight-forward calculation. You already know the expected cash flow if you take the pension monthly payments. What you need to figure out is what kind of cash flow could you generate on your own. For example, you could take the lump sum and buy an annuity that pays (for illustration) 5.5% annually. Which one generates higher monthly payments?

There is an important second factor to consider. When do the pension payments stop? In many cases, the payments stop when you die, even if you die right after receiving your first monthly check. If you take the lump sum and invest it yourself (whether in an annuity or something else), there could potentially be a death benefit to your beneficiaries.

The easiest way to figure this out would be to go see a fiduciary financial planner who can help you with the calculations and help you figure out which way is in your best interest.

Steve Hartel
63 months ago
Well said. - Dr. David E. 63 months ago
Are you a fiduciary? - Dr. David E. 63 months ago
Yes, I am. I am located in Denver, but I help clients all over the country. Where are you? - Steve 63 months ago
No BI or Arb contract clauses, either? - Dr. David E. 63 months ago
Not sure I understand your question. Email me at steve.hartel@trilogyfs.com and we can discuss details. - Steve 63 months ago
Best Interest and Legal Arbitration clauses. - Dr. David E. 63 months ago
For financial planning services, no Best Interest Contract is required, since no products are involved. I believe our consulting agreement does contain a clause stating that arbitration will be used to settle disputes. Should the client want our help in securing a particular product, then a best interest contract may or may not be required, depending on the circumstances. - Steve 63 months ago
Need a fiduciary at all time; in writing and for advice AND products. - Dr. David E. 63 months ago
Being a fiduciary does not preclude having a clause in the agreement that arbitration is the preferred method of resolving any disputes that arrive. I have never yet used a Best Interest Contract, because a client has never insisted on a product that required it. I'm simply saying that one COULD be used in certain circumstances. - Steve 63 months ago
At my firm, we took seriously the DOL's suggestion that planning and products should be two distinct offerings. We offer both (separately) and we are a fiduciary for both. - Steve 63 months ago
I see you are a professor. Are you doing research, or are you actually in need of a fiduciary? - Steve 63 months ago
Exactly; the DOL is a suggestion; thanks. - Dr. David E. 63 months ago
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Lump Sum -OR- Distributed Pension Payout?

A general 6% example guide

As a general guide, if your monthly pension check equals 6 percent or more of the lump-sum offer, then you may want to go for a perpetual monthly payment. If the number is below 6 percent, then you could do as well (or better) by taking the lump sum and investing it, and then paying yourself each year (like a personal pension that you control).

Here’s how the math works:
Take your monthly pension offer and multiply it by 12, then divide that number by the lump-sum offer.

Example 1: $1,000 a month for life beginning at age 65 or $160,000 lump sum today?

$1,000 x 12 = $12,000 divided by $160,000 equals 7.5 percent.

Here, you would have to make approximately 7.5 percent per year on the $160,000 to earn the same $12,000 a year. Earning 7.5 percent a year consistently and over many years is a tall order. Taking the monthly amount in this case (7.5 percent is greater than 6 percent) may likely be a better deal over the long haul.

Example 2: $708 a month for life or a $170,000 lump sum today?

$708 x 12 = $8,496 divided by $170,000 equals 5 percent.

In this scenario, the monthly pension amount is offering you a return for life of about 5 percent.

Remember, for the first 20 years even earning zero percent, you could do the same before you run out of money. If you made even a modest return (say, 2 percent per year), you would be far ahead of what the monthly pension would pay you. In this case, 5 percent is less than the benchmark of 6 percent, so you might be better off taking the lump sum of $170,000.

Any thoughts?

Dr. David E. M
63 months ago
So, you are assuming that receiving a 6% rate of return on an investment is reasonable, while earning 7.5% is a "tall order". This totally ignores the client's risk tolerance. This is exactly why any "rule of thumb" can get people in trouble. You are trying to generalize what should be a very personal decision. - Steve 63 months ago
NOPE: The formula is key - not the assumption which is just for illustrative purposes and easy math for the masses. - Dr. David E. 63 months ago
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JOHN C. BOGLE R.I.P [Age 89]

I attended medical school in Philadelphia back in the day, which was not far from Malvern; PA. My girl friend at the time was at the Wharton School

So, we were thrilled to have the occasion to actually visit and tour Vanguard Headquarters.

We were not able to meet Mr. Bogle but I am very grateful to him.

Dr. David E. M
63 months ago

Have some input?