Lump Sum Vs. Lifetime Annuity Income and your Corporate Pension

Chris Reddick |

One of the most important decisions to make before retiring is whether you want to take your corporate pension as a lump sum or monthly annuity payments spread out over your lifetime. The decision you make on this will greatly impact your retirement and should be made carefully. I will outline five of the most important pros and cons of the two approaches.

1. Guaranteed income: Choosing a lifetime annuity means that you will get a check for the amount of the annuity each month. If you are a person that likes to know how much money you have each month to spend, this might be a good option. You can have this in addition to your Social Security payments. Keep in mind that pensions typically are not indexed for inflation, so as the price of goods and services goes up, you will have lower spending power.

2. Longevity risk: Your health and expected longevity will impact whether you choose a lump sum or annuity. Monthly annuity payments are a great choice if you are in good health and expect to live an average life. Even if you are not in good health, you can still have a joint and survivor annuity where your spouse will resume payments where you left off, but typically at a lower monthly payment amount.

3. Investment risk: If you choose the lump sum, your investments will be subjected to market risk. As a result, the value of your investment can increase and decrease in value. But if you get the annuity, investment risk rests with the company and the pension plan. If the market does poorly, the company will have to contribute more to the pension plan to meet current payees. With a lump sum, you are responsible for taking care of the money yourself. If you are not comfortable with investing, a lump sum may not be a great option. You can, of course, work with a financial advisor to help make investment decisions.

4. Taxation of benefits: The major drawback of taking a lump sum is that unless it is rolled into an IRA or another employer-sponsored plan, it will get taxed and most likely push you into a higher tax bracket. Also, if you are not 591/2, you will be subject to a 10% penalty for early withdrawal. You will also be taxed on monthly annuity payments as you receive them, but they will have less impact on your tax bracket given their smaller size. Monthly annuity payments are tax-efficient and a great way to spread out the taxation of your benefits.

5. Financial health of your company: If the company is not able to make the pension payments, then the plan might be turned over to the Pension Benefit Guaranty Corporation (PBGC). There are limits on how much the PBGC can make in terms of payments, but the amount of so high it is unlikely that you would receive less than you current payment.

As a financial planner, I’m generally in favor of the lifetime income option. This is especially the case for those that are on more fixed budgets. But the lump sum option might be better for those that are more experienced at investing or perhaps work with a financial planner. There are many online financial calculators that you can use to figure out the breakeven for annuity payments versus the lump sum. You can use these to calculate how many years you would have to live to collect enough monthly payments to equal investing the lump sum. Be sure to talk to a financial planner to determine your best option to meet your retirement needs and help you calculate the best option.


*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on to avoid federal tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation by us of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets.

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