Many years ago, pensions were the mainstay of retirement benefits. This is where the employer provides income to an employee after they retire. The amount paid is based on years of service and contributions made into the pension fund during the employee’s working years. As the cost of providing these benefits has increased due to longer lifespans and an extended period of low interest rates, pensions are not as common as they used to be.
For those fortunate enough to have a pension, it is important to have a framework to evaluate the plan and their options. One key decision is whether to receive a one-time lump sum or a lifetime income payment, also called a pension annuity. If an employee decides to take a lifetime annuity, they must further decide whether to accept a reduced amount in exchange for including survivor benefits.
There are three key documents to obtain for evaluating your pension:
1. A copy of the pension’s “Summary Plan Description”. This provides the details of the plan’s options and features.
2. The pension’s “Annual Funding Notice”. This states the valuation of the plan’s assets and liabilities and helps in evaluating the financial health of the plan.
3. A personalized projection of benefits. This shows your specific benefit options and amounts and can usually be obtained from your HR department or benefits provider.
There are important decisions to be made about how to collect the pension benefit. Your Nepsis® Advisor can help guide you through the following evaluation framework:
• Participant Health – What are the overall health and longevity expectations for the employee and spouse. Someone in poor health may decide to take a lump sum rather than a lifetime annuity.
• Plan Health – How well is the pension plan funded and what is the financial health of the sponsor company? Someone taking lifetime benefits must be comfortable that the plan and employer will be around to pay them.
• Hurdle Rate – Will the rate of return for a lump sum exceed the future cash flows of the pension annuity? (Your Nepsis® Advisor can help with this calculation.) A high rate may favor the lifetime annuity, while a low rate may favor the lump sum.
• Legacy Benefit – Is there a residual benefit payable after the participant and beneficiary are deceased? Pensions often limit benefits to the employee and spouse, so the only way to facilitate inheritance for children is taking a lump sum.
• Further Benefits Evaluation – Is the pension annuity required for participation in a retiree health plan? Does the pension annuity provide an annual COLA (cost-of-living-adjustment)? Is there a “bounce-back” feature in the event the beneficiary predeceases the participant? One or more of these features may tip the scale toward the pension annuity.
Advisory Services offered through Nepsis, Inc.; An SEC Registered Investment Advisor.