Thinking of retiring soon? A critical decision on your pension payout could make all the difference.

Individuals 11.15.2022 3 MIN

If you’re thinking about retiring and deciding between a lump sum payout or lifetime income from your pension, delaying your decision could mean a significantly lower payout.

The impact of interest rates

We’ve all felt the impact of higher inflation, and the interest rate hikes that have come with it. But what you may not have thought about is how rising rates can impact your pension if you choose a lump sum. In short, as rates rise, your potential payout drops. Plan administrators use the IRS Minimum Present Value Segment Rates,¹ to determine the valuation of lump sum payouts and typically benchmark them annually. When rates rise, it justifies a lower payout—but you may still be able to lock in a higher payout at 2021’s lower rates.

A lump sum taken this year before plan administrators benchmark to the rising rates could make a big dollar difference. Here’s an example. Let’s say, if you retire in the next few months, your lump sum payout would be $540,000. Work another year at a salary of $70,000 and, in the higher interest rate environment, your lump sum could fall by as much as 20%, or $108,000.²

Retiring now—even without your salary for an additional year—could make financial sense depending on your personal situation.

There are a number of additional factors to consider, like the tax implications of a lump sum. If you’re getting close to retirement, speak with an advisor about the pros and cons of this timely decision.

Comparing outcomes

You also may want to review whether a monthly payment or a lump sum best fits your goals for retirement. Typically, you have two options when you retire, either take your pension amount as a lump sum or take a monthly payment. The monthly payment is typically determined by years of service and salary. While the security of a defined monthly benefit may seem attractive, keep in mind that with the lump sum payout you may be able to leave money to your loved ones.

To help you make these important decisions in a tight timeframe, your advisor can use modeling to project out different scenarios. A few factors to consider include:

Your health and projected longevity
Investment strategies that offer returns that may be higher than those offered on lifetime monthly payments
Evaluating the financial health of your company
Spousal benefits
Tax implications

Each situation, and each investor, is unique

Retirement decisions that are both time-sensitive and irrevocable are highly individualized. Careful analysis of what to do—and when to do it—can be critical to balance the trade-offs and make the single best plan for your unique circumstances.

Work with your advisor to determine if making this decision in the near-term could help you achieve your retirement goals.

For illustrative purposes only and based on assumptions shown. If any assumptions prove not to be true, results may vary

¹ https://www.irs.gov/retirement-plans/minimum-present-value-segment-rates

² https://www.wsj.com/articles/should-you-retire-early-to-get-a-larger-lump-sum-on-your-pension-11667186258