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Question:


How should I analyze whether to take a lump sum from my pension versus keeping the payments (I have a choice)?
-Lafayette


Answer:


The calculations here are similar to the ones employed when deciding whether to buy an annuity, which effectively is what you would be doing by choosing to take lifetime regular payments from your pension fund. When insurance companies – or pension plan administrators in this case – set the level of lifetime payments that a lump sum can be converted to, they use two factors. One is the expected rate of return on the accumulated assets, which in turn is based on current and expected market interest rates. The second is the life expectancy of the typical person of your age. If you’re healthy and your ancestors have tended to live long lives, there’s a good chance that you’ll come out ahead by taking regular payments.
The problem with doing that now is that interest rates are near historic lows, so the other factor in setting payment amounts isn’t working in your favor. You might want to ask your plan administrator to spell out the two options – how much your lump sum would be and, alternatively, how much the monthly payments would be – then check with a financial advisor, a few life insurance companies and/or a fund manager like Vanguard that provides low-cost annuities to see what sort of payments you could get by buying an annuity with that lump sum. If the payments from your pension plan would be a lot better, it might be worth it, even in this low-rate environment, to take them. Otherwise, it seems to make more sense to take the lump sum, keep it in a safe place until rates rise and then buy an annuity with it.

-Conrad de Aenlle



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