If it's the last week of the month, odds are Alison Southwick and Robert Brokamp are going to amble over to the Motley Fool Answers mailbag to find out what it is their listeners really want to know. And for added gravitas and expertise, they've brought in reinforcements: Naima Barnes, a financial planner with Motley Fool Wealth Management, a sister company of The Motley Fool.
In this segment of the podcast, they address a common financial planning conundrum: When an employer that has promised you a pension offers to buy you out for a lump sum, are you better off taking it and investing the money yourself? It's not a simple question, and the answer shouldn't depend solely on the numbers.
Naima Barnes is an employee of Motley Fool Wealth Management, a separate, sister company of The Motley Fool, LLC. The information provided is intended to be educational only, and should not be construed as individualized advice. For individualized advice, please consult a financial professional.
A full transcript follows the video.
This video was recorded on May 29, 2018.
Alison Southwick: The next question comes from Mark. "I am 39, married, and have two kids. I will be getting a pension, but because I was only at that employer for seven years, it will be small; just $400 a month at age 65. Recently they offered to buy my pension out for a lump sum of $15,000. I can't recall if it would be taxed as ordinary income or if the $15,000 was an after-tax amount.
I was debating taking the money and investing it myself. With the assumptions of the market returning 8-10% annually, retiring at 65 and living another 20 years beyond that, the amount would end up being more than the $400 pension. On the other hand, it is reassuring to think that I would have a steady source of monthly income even if it is only $400. What would you do?
Also, as a side question, if I were to die prior to retiring and getting the pension, would my wife get the $400 a month?"
Robert Brokamp: Well, Mark, you took the right step to begin with, in that you ran some numbers. And I did some back-of-the-envelope math and saw that you're probably right. If you do earn at least 8%, you're probably better off taking the money. Of course, that's not a guarantee, but that's the first step, and you're right. You probably will have more money if you take the lump sum of that for yourself.
If you take the lump sum you should move it to an IRA or your current employer's 401(k), otherwise it will be taxed. You don't just want to take that money as a check and put it in your checking account. You want to move it to another tax-advantaged account.
The other thing, too, is if you like the idea of some sort of guaranteed income when you retire, you can take the lump sum, invest it, and then when you turn 65, use the money to buy an annuity if that's what you want. I recently read a study from Towers Watson that found that as retirees have some sort of annuitized income [it could be a pension, it could be an annuity, it could be higher Social Security benefits], the happier they are. They feel more at peace. They feel more satisfied, so there actually is a psychological benefit to having that check coming in each and every month.
As for what will happen to the benefit for your spouse if you die before you take it, you need to check with the pension provider, but that's a very smart thing to do, and when it comes to any retirement planning decision, you should always think about how it's going to affect you, but also your survivors. What happens if you die? Will the benefits still continue?