(This post is valid for both AbbVie employees taking the lump sum value of their pension, or TRS-covered educators taking their pension COLA buyout)
Many people who are heading into retirement with a pension wonder which pension election option is best for them and their family. One attractive option is the lump sum payout. This option pays out a lump sum of an employee’s pension when they retire. If you’re leaning toward taking the lump sum pension payout, it’s important to have a plan for that money.
Why Choose a Lump Sum?
When you take a lump sum from your pension, you’re accomplishing a few things:
- You get a large portion of your pension in one fell-swoop. With other pension options, you may not receive your full pension amount if you pass away early – although each option comes with its own set of benefits.
- You have total control over the funds. Choosing a single life, or a joint and survivor option limits your ability to access your funds. You also won’t be able to control how the funds are invested.
- Lump sum options give more flexibility for estate planning. If you select a pension election option that provides a monthly income to you and/or your spouse, you’re protecting the two of you for a set period of time. However, once one (or both) of you pass away, the monthly payments from your pension stop. Taking the lump sum frees up your ability to pass the money from your pension to your heirs.
If you’ve determined that the lump sum option is right for you, you’ll need to think through how you want to invest those funds to provide consistent cash flow throughout your retirement. One option for investing your lump sum payout is an annuity.
What Is an Annuity?
An annuity is an insurance product that you purchase to provide lifelong, consistent income during retirement. Typically, you purchase the entire annuity upfront. However, in some cases, there’s an option to make a series of payments on your annuity till it’s paid in full. The annuity then provides a monthly disbursement either immediately after purchase, or starting at a predetermined time in the future.
What Are the Benefits of an Annuity?
Annuities can be a low-risk way to provide consistent cash flow throughout your retirement. They cover several retirement planning bases, including:
- Tax efficiency
- Lifelong income (regardless of how long you live)
- Inflation protection
Annuities are also predictable. You know exactly how much money you’ll get each month, and exactly how long you’ll receive payments. Some options, like a Single Premium Immediate Annuity (SPIA), can even start to provide a monthly benefit from the moment you purchase. This can make creating a retirement budget, or determining when and how to tap your other retirement resources (like savings or Social Security) much easier.
What Are the Drawbacks of an Annuity?
Although annuities sound like an ideal solution, that isn’t always the case. In fact, there are several drawbacks to investing your lump sum payout in an annuity. These include:
- High fees
- Lower potential returns when compared to other investment options
- Lack of flexibility – once you invest, there isn’t really any going back
Annuities aren’t the right choice for everyone, and not all annuities are created equal. Before purchasing an annuity, make sure it fits into your comprehensive retirement planning strategy. They can be fantastic tools for creating consistent cash flow, but also limit your ability to accomplish other things with your pension payout. Knowing your goals during retirement, and how you want to leave a legacy, can help you to determine whether an annuity is a good fit for you.
Looking Beyond the Dollars and Cents
Retirement planning and investing is about more than just what makes the most financial sense. You have to take in your own emotions about your money, and how they’ll impact how you feel about your finances into account. As a fee-only financial planner, I can say that one of the biggest decisions you’ll make about your retirement is what to do with your pension. There are a few different factors that come into play – let’s go over them together.
Your Risk Tolerance
For ultra-conservative investors, sitting on a pile of cash to fall back on during retirement may feel more comfortable than investing their lump sum in traditional investment vehicles. However, this isn’t necessarily the best move to make, especially when you think about stretching your pension payout across the full span of your lifetime (and your spouse’s!).
Even if you have a low risk threshold heading into retirement, investing your lump sum in one way or another will help you to plan for a long life. In these cases, an annuity may feel more comfortable than a different, more traditional investing strategy. Depending on the annuity you purchase, it could provide you and/or your spouse with lifelong, consistent income – sometimes as soon as the month you invest.
Protecting Your Spouse
Another factor in how you feel about taking a lump sum payout usually revolves around your spouse. If you’re concerned that your spouse may outlive you, taking the lump sum may feel risky. In fact, even the single life option within your pension or investing your lump sum in a single premium immediate annuity may feel risky. The desire to protect your spouse may push you away from investment options that don’t ensure that they have a consistent stream of dependable income long after you pass away.
Feeling Entitled to Your Lump Sum
Some people know immediately that they want to take the lump sum payout option in their pension. Others stay on the fence and debate for a while. One of the key factors that pushes people toward the lump sum option is a sense of entitlement.
You’ve worked hard for your pension over the course of your career, and now you get to reap the benefits! If you know you want to take the lump sum option, researching whether investing the funds in an annuity to maximize the funds over the course of your lifetime may be a good option for you.
Deciding whether to invest your lump sum pension payout in an annuity can be challenging. It can help to take a moment to step back and look at the big picture. Determining what you want your retirement lifestyle to be, how you want to leave a legacy, and whether or not you need your pension payout to protect you and your spouse or partner are all factors that need to be weighed before making a final call.
If you have questions about what to do with your pension, or whether an annuity is the right choice for your lump sum payout, I’d love to help. Schedule a call with me by clicking here. Together, we’ll create a retirement strategy that accounts for your pension, and all other aspects of your income plan.