Making the Most of Your Pension: Smart Strategies For Your Retirement Income

If you’re one of the workers who still has a traditional pension, you’ve got a valuable tool that most Americans don’t have anymore.

For those who are eligible for a pension, understanding its role in retirement planning can make world of difference in building income. Yet many fail to utilize its value, trusting vague assumptions rather than informed reasoning.

Understanding What You Actually Have

Do you know what type of pension you have?

Traditional Defined Benefit Plan

Most traditional pensions are defined benefit plans, meaning your employer promises you a specific monthly payment in retirement based on factors like your salary and years of service.

Cash Balance Plan

Other types of defined benefit pensions, like a cash balance plan, allows you to contribute to your employee retirement account each year with a pay credit and an interest credit.

For both traditional defined benefit and cash balance plans, the employer manages the investments and assumes the investment risk. This differs from a Defined Contribution Plan where the employee chooses how to invest and is not guaranteed a specific benefit amount.

Some pensions use your final salary; others average your highest three or five years. Some include bonuses and overtime in the calculation, others don’t. You need to understand exactly how your pension is calculated because it affects major decisions down the road.

The Big Decision: Lump Sum or Monthly Payments?

This is often the most consequential financial decision you’ll make in your life. Many companies now offer employees a choice: take your pension as monthly payments for life or take a one-time lump sum payment and walk away.

The lump sum option sounds attractive. It’s a huge pile of money all at once, you have control over the investments, and if you die young, your heirs get whatever is left. But there is caution when choosing a course of action and requires careful analysis.

The Case for Monthly Payments:

You get guaranteed income for life, regardless of how long you live or what happens in the stock market. This reduces investment risk and can provide financial security in retirement.

“The monthly pension payment essentially acts as longevity insurance,” says Charles Castro, Senior Vice President at David Lerner Associates.

“If you live to 95, you keep getting paid. With a lump sum, you bear the risk of outliving your money. Many people underestimate how long they might live in retirement and overestimate their ability to manage a large sum effectively over 20 or 30 years.”

For someone without a concrete plan for how they want to use their retirement money, having a monthly payment can also act as a psychological safeguard: not spending large amounts of money at once just because it’s accessible.

The Case for the Lump Sum:

By taking it all at once, you can maintain control and flexibility. If you need money for an emergency or want to help your kids, you can access it. If the pension fund runs into financial trouble, your money is already out. And when you die, the remaining balance goes to your heirs rather than staying with the pension fund.

It’s important to note that taxes may apply if the lump sum is not rolled into a tax-deferred account, like an IRA, and can count towards your taxable income for that year.

Running the Numbers

To make an informed choice, you can calculate a rough “breakeven” point based on your pension plan, when the total monthly payments could surpass what you might reasonably earn from investing a lump sum, while considering investment returns and risks.

You also need to factor in:

• • • What return could you reasonably expect if you invested the lump sum?
    • Does the monthly pension include cost-of-living adjustments?
    • What’s your health and family longevity history?
    • Do you have other guaranteed income sources like Social Security?
    • What are the survivor benefit options and costs?

Speaking to a professional about your options can help bring clarity to reasonable investment outcomes and help untangle some of these factors that may impact your pension decision-making.

Considering Your Pension: Timing is Everything

One of the most important factors when considering your pension is when to take it. Retiring too early or taking your pension before it’s full maturity can cause lifetime penalties that can cost you valuable retirement income. Like Social Security, a few pension plans may even offer increased benefits if you delay retirement

Social Security and Pensions:

This is where strategy gets important. You have two sources of guaranteed lifetime income, and the timing of when you start each one can dramatically impact your financial security.

Evaluate the age of full benefits for your pension in relation to Social Security. Remember, while 67 is full retirement age for Social Security, you can wait to claim your benefits until 70 to get delayed retirement credits. Many pensions have a lower full benefits age and may factor in years of service.

Get Professional Help Before Making Irreversible Decisions

Pension decisions are permanent. Once you elect your payment option, you generally can’t change it.

Given what’s at stake, working with an advisor who specializes in retirement income planning can be beneficial. They often can:

• Can model different scenarios
• Understands the tax implications
• Coordinate with your other retirement income sources

Your Pension Is Part of a Bigger Picture

Your pension doesn’t exist in isolation. It’s one piece of your retirement income puzzle, along with Social Security, personal savings, and your investment portfolio.

The key is viewing everything holistically. A guaranteed pension payment can provide a grounded income foundation and can act as a supplement to other retirement accounts like 401(k)s and IRAs.

Talk to an Investment Counselor at David Lerner Associates to discuss how other investment options for retirement savings can work with your pension plan. We can help you assess if your plan is sufficient for your long-term goals.

Take the time to understand your pension inside and out. Read your summary plan description (yes, the whole thing). Run scenarios. Ask questions. And most importantly, make your decision based on reasonable analysis, not emotion or assumptions.

Your pension can be worth hundreds of thousands of dollars over your lifetime. Treat it with the respect and attention it deserves.

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Material contained in this article is provided for information purposes only. It is not intended to be used in connection with the evaluation of any investments offered by David Lerner Associates, Inc. This material does not constitute an offer or recommendation to buy or sell securities and should not be considered in connection with the purchase or sale of securities. These materials are provided for general information and educational purposes, based on publicly available information from sources believed to be reliable. We cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.