Why I took a pension lump sum
Until recently, I worked for one of the few remaining companies to offer a real, old-fashioned pension. When I quit a few months ago, I did something I’d read you’re never supposed to do. I cashed out and took a lump sum from the pension plan. Here’s why I did it.
My old employer is one of the few that still offers a pension (only 11% of private employers still do, according to the BLS and the Fed). Well, they still kinda offer a pension. A couple of years ago they stopped contributing to the plan. You didn’t lose anything if you worked there, you just didn’t get anything more than what was already there. Since 1985, the commonality of defined benefit plans (i.e. ‘pensions’) has dropped off a cliff. For most people going forward, retirement savings depends almost entirely on defined contribution (i.e. IRAs and 401(k)s) plans and Social Security.
When you leave a company that has a pension, though, you have a choice to make. You can either take your pension as a lump sum or take the annuity (monthly payments). It wasn’t even close - I took the lump sum for four reasons.
- There were no negative tax consequences of doing so. I was able to roll the money directly into an IRA without paying taxes or penalties. This was a biggie.
- I strongly suspect I can achieve greater returns investing the money myself. Not because I’m some genius investor (check out my super-duper asset allocation) but because I have a long time horizon and am risk tolerant. Pensions have a lot of advantages when investing money, but they can’t lose money. I’m not in the position of having to pay out money every quarter. With the money in an IRA, I can literally invest in anything.
- The array of choices for the annuity was ridiculously lengthy and confusing. Seriously, there were easily twenty-five choices for how you could get the annuity. I like to think I’m a reasonably smart guy, but I couldn’t make heads or tails out of that list.
- It is a reasonable possibility that by the time I retire in 30 years that money won’t be there if I’d left it in the pension plan. Pensions not only suspend contributions like mine did, they also fold completely like several airline pilots’ plans did in 2005. And while there exists the federal Pension Benefit Guaranty Corporation that’s supposed to insure against it, the PBGC is hurting real bad.
The process itself was pretty straightforward. Fill out a couple of forms, get them notarized (In my case twice. Don’t ask.) and tell the pension manager where to send the money. I actually never saw the money in the form of a check. Strangely, they could send the money directly to my investment company (USAA) but I couldn’t do that with my 401(k) money. In the case of a 401(k) rollover, you get a check made out to the investment firm and you send it to the them. Whatever.
So that’s it. I was able to put something like $30K into my IRA instead of leaving it with the pension fund.
It’ll be a little something extra come retirement time.
April 8th, 2008 at 11:28 pm
Good job. I did the same 3 years ago, and am happy I did so. My coworkers who stayed in the plan (one time chance to pull out) are not happy. There’s a good chance the company can go under and they won’t get the full amount from PBGC. I’m with you there.
Joe
April 9th, 2008 at 2:20 am
April 9th, 2008 at 2:46 am
We have a similar situation in the UK, where we share many of the same problems as the US; rapidly increased life expectancy over the last 30 years; a lack of confidence in the pension system; a lack of trust in the ’safety net’ set up by Government in case an employer goes bust; pension contributions reducing as people tighten their belts.
It doesn’t bode well for future generations.
Mike Jones
April 9th, 2008 at 3:50 pm
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April 9th, 2008 at 3:50 pm
My brother in law just left his company for a new position. He and I talked about these same points, and in the end he rolled his pension into an IRA as well.
Great article, and I would have done the same thing.
April 10th, 2008 at 2:48 pm
I think in your situation, I would have done exactly the same thing. I would be particularly concerned with the way pension plans are failing and payments being cut off.
April 11th, 2008 at 6:08 pm
Great post. A friend asked me about cashing out his pension just a few days ago. I plan to forward your post to him.
Assuming there are no adverse tax consequences or penalties for cashing out, then it would come down to two things for me:
1. Can I invest my money better than the pension manager? “Better” means different things for different people, but at a minimum it includes return as well as transparency. It’s not always easy to know how it’s invested, which makes it difficult to allocate the rest of your investments accordingly.
2. There is the risk the fund collapses or runs dry and your money won’t be there in 30 years. Generally you are compensated for bearing risk in our financial system. In this case, however, I see it as an additional risk for which you’re not being compensated. So why bear it?
April 13th, 2008 at 4:48 pm
[…] you keep you money in a pension plan, or cash it out? KMC from Advanced Personal Finance cashed his out - which is what I would have done as […]
July 9th, 2008 at 9:15 pm
Right on the money. Just the flexibility and control are overwhelming qualitative reasons to take the lump sum before even considering the positive quantitative reasons.