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Which Pension Payout Option Should You Take?

If you’re one of the lucky people who own a pension, you may have noticed that it before you start receiving the payments, it will offer different payout amounts.  Normally, if you are married, benefits have to be paid in the form of a “qualified joint and survivor annuity”. This annuity pays a certain dollar amount to you during your lifetime, usually monthly, with at least 50% of that amount continuing to your surviving spouse after you pass.

But you can choose to waive the survivor payment and elect instead to receive an annuity for your lifetime only.  This could give you and your spouse a significantly larger monthly benefit amount while you are both alive, but the tradeoff is that the payments would stop at your death.  People who want to maximize their monthly retirement income are often tempted to choose the higher-paying single-life annuity for exactly this reason, but many of them are also concerned about providing for their spouses after they die.

So how do you solve this problem?  One way to potentially do that is through what’s called a “Pension Maximization” technique. It works like this:  Let’s say hypothetically that you have the option of taking either a single-life payout of $4,200 a month, or a joint-and-survivor option that pays $3,500 a month as long as either of you are alive.  Rather than take the lower amount, pension maximization says to take the higher single-life payment, and use the extra $700 to buy a permanent life insurance policy on yourself.

If you die first, the pension stops, but your surviving spouse gets a tax-free death benefit to help provide the funds for them to live on.  If your spouse dies first, you can either cancel the life insurance policy, and keep the higher pension amount or continue the policy and allow the death benefit to go to your heirs.

This strategy can work, but there are also some reasons why you may not want to do it.  Why not?  Well, in my hypothetical example, the $700 reduction you’d take for the joint-and-survivor option would give your spouse a lifetime pension income of $3,500 per month after you are gone, guaranteed by the PBGC.  The question is, could you get a life insurance policy that would pay a large enough death benefit to provide that same $3,500 per month for the rest of your spouse’s life?  Sometimes, but not always.

So using the Pension Maximization technique may be a great option for some retirees, but you have to carefully consider several key factors before you do it:

  • The current ages and projected longevities for both you and your spouse
  • Your health and insurability
  • The dollar difference between the single and joint life pension payouts
  • Your tax bracket and financial situation, and
  • Whether any health insurance benefits are tied to the pension

Each of these factors, and a few others, can have a really big impact on whether or not Pension Maximization can work for you.

Maybe the most important first step you can make is to talk it over with your financial advisor, who should look at your individual situation and help you to determine what’s best for you.  We do this all the time, and if you need help in figuring it out, just give us a call – we’re always here for you.

Important Information:

The information provided should not be considered specific tax, legal, or investment advice and is not specific to any individual’s personal circumstances. To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. This material was gathered from sources believed to be reliable, however, its accuracy cannot be guaranteed.

Different types of investments and/or investment strategies involve varying levels of risk, and there can be no assurance that any specific investment or investment strategy (including the investments purchased and/or investment strategies devised by LCG) will be either suitable or profitable for a client's or prospective client's portfolio, thus, investments may result in a loss of principal. Accordingly, no client or prospective client should assume that the presentation (or any component thereof) serves as the receipt of, or a substitute for, personalized advice from LCG or from any other investment professional.

These materials are provided for general information and educational purposes based upon 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.

Annuities are long-term investment products designed for retirement purposes. Guarantees are based on the claims-paying ability of the issuer subject to their terms and conditions. Early withdrawals may be subject to surrender penalties and, if taken prior to age 59½, may be subject to an additional 10% federal tax. Annuities are not FDIC insured. Certain terms and conditions apply, so please read insurance company materials carefully.

Insurance products offered through Lucia Securities, LLC (CA Insurance Lic. #0H40817). Lucia Securities is licensed to offer such insurance products as life, disability, long-term care, and annuities. Lucia Securities is also a registered broker/dealer, member FINRA/SIPC, and the dba for Lucia Insurance Services. Lucia Capital Group is a registered investment advisor and the holding company for Lucia Securities. Registration with the SEC does not imply a certain level of skill or training.

Case studies are hypothetical, are for illustrative purposes only, are not guaranteed and subject to potential federal and state law amendments. There is no guarantee that you will achieve the results discussed.

PBGC is a federal agency created by the Employee Retirement Income Security Act of 1974 (ERISA) to protect pension benefits in private-sector defined benefit plans - the kind that typically pay a set monthly amount at retirement. If your plan ends without sufficient money to pay all benefits, PBGC's insurance program will pay you the benefit provided by your pension plan up to the limits set by law.

Rick Plum is a registered representative of, and offers securities through, Lucia Securities, LLC. Advisory services offered through Lucia Capital Group.

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