How to Choose Your Pension Payout Options

If you’re fortunate enough to have a pension plan, you’ll eventually need to choose how to receive your benefits. For example, you’ll first need to evaluate if taking a lump sum is more appropriate than opting for monthly payments (also known as an annuity or stream payout). Should you elect monthly payments, you’ll need to carefully weigh the options available—especially if you’re married or have dependents. Moreover, you’ll want to ensure you make the right decision, as the path you choose is irrevocable (meaning it can’t be changed).

This post will help provide you with clarity in your decision-making with respect to pension payout options.

Should I take a lump sum pension offer?

Your first decision is to determine whether an annuity (monthly payments) or lump sum (all benefits paid upfront) is more appropriate for your needs.

If you believe you can make more money investing on your own, already have sufficient sources of retirement income, or are in poor health and don’t expect to live very long, then a lump sum payment may make sense for you. You may also find a lump sum pension appealing if you’re worried about your employer’s financial stability (particularly if your pension lies with a religious institution) or you want to protect your legacy since you can leave any remaining assets to your children or other heirs (whereas with monthly benefits, pension payments cease when you or a surviving beneficiary dies).

On the flip side, lump sum options are often least appropriate for married couples, spenders who won’t save or reinvest the money, and/or those worried about outliving their retirement savings.

As you can see, the choice is highly individualized and thereby not always clear-cut. You can read about the pros and cons of lump sum offers in more detail here. However, for the purposes of this article, we’ll assume you’ve decided to move forward with monthly payments.

Annuity distribution options for your pension

Below are the typical options you’ll find for monthly annuity pensions. Most service providers provide you with the ability to calculate your monthly benefit within their website portals, allowing you to view the trade-offs in exact dollar amounts for each option.

Single-Life Annuities
This option generally provides you with the highest monthly benefit; however, payouts will cease when you die since funds are only paid out to one person (you). This is often an excellent option if you’re single with no dependents.

However, if you’re married, keep in mind that this option is limited as it lacks payouts for your surviving spouse. As a result, you’ll need to evaluate other sources of retirement income to determine if he or she will need the money. Another reason to choose a single-life annuity is when you expect to outlive your spouse, as you’ll want to maximize your benefits.

Joint And Survivor Plans
Joint and survivor plans feature a benefit payment that is lower than single-life, as your spouse (or other designated beneficiary) will receive a percentage of your benefit payments for the rest of his or her life after you pass away.

The most common options allow you to select either 50, 75, or 100 percent of your benefit payment for the survivor. The larger the survivor’s benefits, the smaller your monthly payment. For example, should you choose a 100% joint and survivor plan, your monthly payout will represent the lowest among all options. However, this will provide your surviving beneficiary with the highest degree of financial security.

Joint and survivor options are often preferred if you’re married, the older spouse, or your spouse is in better health than you.

Term Certain/Period Certain Annuity
To help mitigate premature death risks while still receiving a higher payment than joint-and-survivor amounts, you may also have the option of a single-life annuity (either term or period certain).

With this type of contract, you are paid benefits for a preset number of years (often 5, 10, or 20) rather than over your lifetime. Should you pass away before your term expires, payments continue for the duration of the term to a designated beneficiary—such as your spouse.

With this option, you’ll enjoy the certainty of knowing exactly how many payments you and your beneficiary will receive. While monthly payments typically fall between single-life and joint-and-survivor amounts, you may be able to obtain higher monthly payments than single-life if the payment period is less than your life expectancy. With that said, there are also drawbacks: the largest being that if you live beyond your term and need the security of regular income, you may face a significant disadvantage.

This option is also often appropriate when the surviving beneficiary only has an income need for a fixed period of time.

Annuity with accelerated payments
If you plan to retire before you’re eligible to claim Social Security benefits (which typically occurs as early as age 62), you may experience a short-term gap in your retirement income. Accelerated payments (also known as a level income option) help bridge this gap by initially providing you with a higher pension until your Social Security benefits kick in—at which time your pension will adjust to a lower amount. This option helps ensure pension recipients enjoy a stable income during retirement.

To illustrate this concept further, let’s assume you retire from your company at age 55 but your  Social Security benefits don’t take effect until age 62 (at an estimate of $1,500 a month).  If you’re estimated to receive $4,000 a month from both your pension and Social Security, your pension would pay you $4,000 a month before dropping to $2,500 at age 62.

Depending on your pension plan, you may also have joint and survivor options. Note that not all pension plans are the same; therefore, it’s important to understand how your specific plan calculates these benefits.

Pension maximization using life insurance

One option married couples sometimes utilize to maximize a pension is to use a portion of the difference between a single-life payout and a joint and survivor payout to purchase a life insurance policy.

In some cases, life insurance can provide a larger spousal benefit and greater flexibility in that your spouse would have an opportunity to pass money to heirs. With that said, this option is usually not appropriate if you’re in poor health since underwriting—which traditionally calls for a medical exam—is required to qualify.

In sum: evaluating your pension payout options

There are so many factors to consider when deciding which monthly pension payout option to choose. If you want to guarantee your spouse income during retirement, then joint-and-survivor plans are better suited than single-life options. However, since your pension is likely only one source of your retirement income, it’s critical to adopt a holistic view of all sources and understand how they can work together to maximize your retirement income. This is precisely where a financial advisor can help.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and is not intended to provide specific advice or recommendations for any individual or business.