Decision on pension lump sum vs. annuity

[convergent]

I am struggling with what to do about a pension fund that I have (IBM plan) and would like to get opinions from folks here.

Situation:
I'm married and my wife and I are both 54. I retired from IBM after 31 years about 3 years ago (but still working full time) and was on their "new plan" which is just a cash balance fund. We have about $900K in 401K, IRA, Roth, and brokerage accounts and I'm investing heavily while still working. We are totally debt free and have a paid for house worth about $350K. We have one (of four) kids still in college and money set aside for that. I don't plan to retire until at least 5 years from now.

When I left IBM, I was given a document outlining the pension fund options, and have gotten updated documents several times since. The two I'd consider are lump sum or 100% joint/survivor annuity. The complication is that because of my specific situation with IBM, I get an "enhancement" to the annuity payment which makes it a tough choice.

When I left three years ago, I could have initiated:

Lump sum payout = $231K
or
Annuity + Enhancement of $991 + $501 = $1492/month

Now, I could initiate:

Lump sum payout = $239K
or
Annuity + Enhancement of $1110 + $431 = $1542/month

This fund is growing at a rate based on the T-Bill, so practically nothing. The enhancement will keep diminishing over time... in 5 years it will be down to $279/month. But if I start the annuity payments, its locked in for life.

If I cashed out at $239K now, it would need to grow, assuming 8% investment growth and 4% retirement draw, for about 13 years to net the same draw that the annuity would give me today. If I instead started the annuity payment now and invested 100% of it, it would grow to about $75K in 5 years and would give me an extra $250 a month draw, or obviously more if I retired later. The $75K figure is assuming after taxes investment.

So my first thought was always to just lump sum out and invest it, but I've been on the fence for these years watching how it behaves and looking at the enhanced annuity payment seems the better option. I do have a good income now, so I would really invest 100% of the annuity payment. But even if I didn't invest it and just spent it, it still seems like the better financial choice.

What do you think?

 

[Big_Hitter]

is the 1542 a straight life or joint and survivor annuity?

 

[Dash man]

8% investment growth? A bit optimistic IMO.


Enjoying life!

 

[pb4uski]

($1,542*12)/$239,000 = 7.74% payout rate.... sounds pretty good to me

from immediateannuities.com for 54 yo couple in NC assuming $239k premium:

joint life: $995/mo
single life: $1,073/mo

The annuity option looks attractive to me unless your health is poor.

 

[convergent]

is the 1542 a straight life or joint and survivor annuity?

The 1542 is joint and survivor. If I took straight life, it would be 1715.

 

[pb4uski]

Slam dunk if there ever was one.

 

[pb4uski]

One way to look at it is the internal rate of return if one or the other of you you live to a certain age (see table below)... as a point of reference IIRC one of you is likely to live until your early 90s.

Age	Years	IRR
54	0
55	1	-97.7%
56	2	-77.0%
57	3	-55.0%
58	4	-39.1%
59	5	-28.1%
60	6	-20.3%
61	7	-14.7%
62	8	-10.5%
63	9	-7.3%
64	10	-4.8%
65	11	-2.8%
66	12	-1.2%
67	13	0.1%
68	14	1.2%
69	15	2.1%
70	16	2.8%
71	17	3.4%
72	18	4.0%
73	19	4.4%
74	20	4.8%
75	21	5.2%
76	22	5.5%
77	23	5.7%
78	24	6.0%
79	25	6.2%
80	26	6.4%
81	27	6.5%
82	28	6.7%
83	29	6.8%
84	30	6.9%
85	31	7.0%
86	32	7.1%
87	33	7.2%
88	34	7.3%
89	35	7.3%
90	36	7.4%
91	37	7.4%
92	38	7.5%
93	39	7.5%
94	40	7.6%
95	41	7.6%
96	42	7.6%
97	43	7.7%
98	44	7.7%
99	45	7.7%
100	46	7.8%

 

[MooreBonds]

We have about $900K in 401K, IRA, Roth, and brokerage accounts and I'm investing heavily while still working. We are totally debt free and have a paid for house worth about $350K. We have one (of four) kids still in college and money set aside for that. I don't plan to retire until at least 5 years from now.

So it sounds like you have $900k in your non-pension investment portfolio (excluding college funds), and you will continue to work and put money into your retirement accounts.

If you were to roll over your pension, what would you invest the funds in? 100% equities? What about the $900k (plus new contributions)? Would you always be 100% equities? I'm willing to bet you will have at least some bond exposure in your portfolio.

So assuming that..why would you take a rollover out of the pension, hope to somehow average 8% net returns for the next 10 years, then hope to somehow buy a pension with the same terms (or, somehow continue to earn 8%/year for the rest of your life), or have a bond allocation in your portfolio that somehow doesn't drag down your overall portfolio return less than 8%/year?

As pb4uski mentioned, I think it's a slam dunk too. Keep the pension (and maximize that "enhancement"), and let that represent your bond allocation. Then keep more/most (perhaps all?) of your current and future investments in equities, well diversified.

If you took your pension out as cash and invested it, would you have a 50/50 portfolio (or 60/40)? If so, that would be just about the same as having your $900k current investments + some growth and new contributions, plus your pension (representing your bond exposure, and invested at a VERY high yield, guaranteed for you and your spouse).

Only fly in the ointment would be who is guaranteeing/funding your pension? Is it adequately funded? What is the funding level? What investment returns are they assuming?

 

[convergent]

Thanks for the input everyone!

Your assumptions are correct that I have been treading this fund to offset my being 100% in equity funds with all my other investments. I was treading this kind of like my bond exposure since it was earning like 1%.

We are both in good health now and fairly active. My father lived to 74 and my mom is still alive at 93. My wife's parents are still alive and much younger, but her grandparents lived into their 90s. So it is safe to assume we'd 6-7% area on the IRR chart unless we had some untimely accident.

The fly in the ointment is a risk, but not sure how to assess that. From what I've seen online (admittedly I don't know much about this stuff), IBM has the biggest pension funding gap behind GM and AT&T. That said, they have something like $93B in assets, and $105B in obligations. That is a lot to work with and the company, at least for now, is still very profitable. All the big corporations have pension gaps, and IBM better than most converted all the newer employees to much lower obligations. Assuming they don't get belly up, I think they are probably as safe as any pension fund. But then I get chills wondering if they would still be here in 40 years if one of us lives that long. I'm assuming there is no government insurance or guarantee on pensions, right?

One other question on this... if interest rates were to go up, would that not enhance the annuity payment?

Seems like the way to go is to start the annuity right away and start investing the payments.

 

[pb4uski]

I would think that your pension is probably covered by the PBGC... but to be candid, your IBM pension fund is better funded than the PBGC.... in any event, it seems to me that credit risk is not really high.

Once you start your annuity payments they are fixed... typically not adjusted for changes in interest rates.

 

[convergent]

Right, I know the payments are fixed. What I meant was if interest rates were to go up, would that not effect the calculation of annuity payments (before it was commenced)? The latest projection I got from them this week showed the $1542 if I started it now, but project $2045 if I wait and started it in 5 years. I don't buy that projection, because in 3 years its not gone up much at all, and so they must be using some funny assumptions to calculate that. They are also showing the lump sum jumping to $299K, which again there is no basis I can see to assume this when its been growing at about 1% a year. The only thing I can think is they are assuming interest rates start increasing.

 

[DrRoy]

I have a situation of some similarity and I choose to take the pension monthly. I will like having that steady income, and my other assets are already plenty for me to manage for risk and return.