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How to take a pension payout
If you're fortunate enough to be among the 30% of Americans who have a company-funded pension,1 you probably have to make a one-time, irrevocable decision on how you want to receive your benefits.
Which option is best for you? It depends on your plan's options, your retirement needs, and your situation. Here are three steps to help with that important decision.
Step 1: Understand your options
You may have a number of choices for your pension payment, but the three common options are: a series of regular periodic payments for life (a life annuity), a lump sum, or a combination of the two. Check with your benefits department for your options.
Regular periodic payments
But you need to know that:
Typical Pension Plan Annuity Choices
Taking a lump sum
Taking a lump-sum payment can give you more flexibility with your money. You decide how to invest it and can use it when and how you want. Also, when you pass away, you may have some of it left for your heirs. But, unlike an annuity payment, it will be up to you to ensure that your lump sum will last in retirement. This likely means investing some of it in the stock market to potentially generate capital appreciation. So you would need to be comfortable with volatility and changes in the value of your investments.
When you take your lump-sum distribution, you should roll it directly into an IRA to avoid a taxable event.
You could also use some or all of the lump sum to purchase an annuity from a third-party company. Why a third-party annuity? Because it may have options that your employer's plan doesn't, such as inflation protection or cash refund, or it may pay out more monthly income. That said, it is critical to choose a highly rated carrier to ensure its ability to pay.
Combination of regular payments and lump sum
Step 2: Determine which option is right for you
Seeing how various retirement and benefit start dates would impact your benefits can help with your decision. You may find it makes sense to work a little longer to accrue more benefits, or begin your benefit early if your plan offers early retirement packages. Your employer may have an online tool that evaluates different scenarios. If not, get all the information you can about your plan and then request pension estimates for each of the options. To compare options, use the relative values from the estimates.
One of our key tenets for retirement is that retirees need to ensure that their essential expenses, like food, clothing, health care, and a place to live, are covered by "guaranteed" income from sources like pensions, annuities, and Social Security. Then you can use savings and other less predictable income, such as part-time employment, to cover things that aren't "essential" but are nice to do in retirement, like traveling and dining out. Also, you may be able to invest some of your savings in the stock market for growth. Because nonessential expenses are just that, you can vary those expenses during different market periods. In good times you can travel more, in tougher times perhaps less.
Consider your essential expenses first when determining which type of distribution to take. For instance, if you have enough "guaranteed" income from other sources, a lump sum may be most appropriate. On the other hand, while you don't want cash-flow shortfalls in retirement, you don't want to lockup too much money in inflexible investment options, which may limit your long-term growth and tie up more of your money than necessary.
Here are some hypothetical examples that may help you when making a decision.
Concerned about outliving savings?
Sam and Elaine are both 65. Sam is about to retire. Elaine never worked outside the home. They are both in relatively good health and are looking forward to traveling and volunteering. They want to ensure that they won't run out of money in retirement. After shopping around, they found a highly rated insurer that offered better rates for a joint and survivor annuity than Sam's plan did. He chose the lump-sum distribution, had it directly rolled over into an IRA to maintain tax deferral, and then withdrew from the IRA to buy the annuity.
Essentials covered, growth wanted
Step 3: Implement wisely
One of the best ways to help make informed decisions about retirement is to have an income plan. It can help you to see if your essential and discretionary expenses will be covered throughout retirement, which in turn can help you make an informed decision about your pension distribution.
Once you make your decision, there are still choices and next steps.
When choosing an annuity:
When taking a lump-sum distribution:
1. Based on the estimated 44 million Americans covered by PBGC insurance, from the PBGC Pension Insurance Data Book 2008 and on government workforce figures from the Bureau of Labor Statistics. Fidelity Investments Institutional Services Company, Inc. 100 Salem Street, Smithfield, RI 02917.
Fidelity Investments Institutional Services Company, Inc. 100 Salem Street, Smithfield, RI 02917.
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