Purchase Additional Pension Service Credits?

[mountainsoft]

My wife's pension has an option that would allow us to purchase additional service credits at the time she retires. For example, we could pay about $70,000 to increase our pension payments about $325 per month. Obviously, we don't have 70K sitting around, so this would have to come from our IRA.

So, I'm curious if it is a wise or foolish decision to take money from the IRA to increase our monthly pension payments?

The pension is a guaranteed amount for life (with COLA), whereas the IRA is subject to market ups and downs and could run out if we withdraw too much too fast.

Thoughts?

[enginerd]

To effectively evaluate your situation, we will need the time component. Such as current age and years until you begin withdrawal.

[Sunset]

With the limited data you have supplied, you could think of it as: 5.57% return on the 70K.

This drops the more you pull from IRA as you would pay tax, so you could take some out of IRA, and borrow the rest, then each year for a few years take out enough from the IRA to pay off the debt.
Basically spread the IRA withdrawal out over a few years to reduce the tax paid.

Possibly use a HELOC for the source of funds so you get a low interest rate.

[mountainsoft]

Quote:

Originally Posted by enginerd To effectively evaluate your situation, we will need the time component. Such as current age and years until you begin withdrawal.

Sorry, I just learned of this option this morning, so I hadn't given it much thought.

My wife is 48, hoping to retire in 7 years at 55.

My IRA (VBIAX 60/40 mix) should be worth around 150K at that time.

[mountainsoft]

Quote:

Originally Posted by Sunset This drops the more you pull from IRA as you would pay tax, so you could take some out of IRA, and borrow the rest, then each year for a few years take out enough from the IRA to pay off the debt. Basically spread the IRA withdrawal out over a few years to reduce the tax paid. Possibly use a HELOC for the source of funds so you get a low interest rate.

Hmm.. I hadn't thought about the tax penalty. I don't know what a HELOC is, but sounds like I would have to balance interest rates against tax rates.

[Teacher Terry]

This is a math question. My DH ran the math for both of us and the breakeven point was in our early 80's so we decided it was not worth it.

[Sunset]

Quote:

Originally Posted by Teacher Terry This is a math question. My DH ran the math for both of us and the breakeven point was in our early 80's so we decided it was not worth it.

If OP pension has great/good suvivorship included, it could very well be worth it unless they know they are both going to die young.

https://personal.vanguard.com/us/ins...etirement-tool

Couple. If the man and woman are married, the chance that at least one of them will live to any given age is increased. There's a 72% chance that one of them will live to age 85 and a 45% chance that one will live to age 90. There's even an 18% chance that one of them will live to age 95, as shown below.

[Sunset]

Quote:

Originally Posted by mountainsoft Hmm.. I hadn't thought about the tax penalty. I don't know what a HELOC is, but sounds like I would have to balance interest rates against tax rates.

HELOC is Home Equity Line Of Credit.

Often you can set these up, for free.
It is basically a way to borrow against the value of the house, and the rates are often lower than regular loans just like mortgages are lower.

[Accidental Retiree]

Quote:

Originally Posted by Sunset With the limited data you have supplied, you could think of it as: 5.57% return on the 70K. This drops the more you pull from IRA as you would pay tax, so you could take some out of IRA, and borrow the rest, then each year for a few years take out enough from the IRA to pay off the debt. Basically spread the IRA withdrawal out over a few years to reduce the tax paid. Possibly use a HELOC for the source of funds so you get a low interest rate.

Just as I was leaving the public sector, a few years ago, I recall they were starting to look at rollovers from IRAs and 457s to fund purchase of extra pension years ("air time").

If that ever went into effect, would being able to roll IRA funds over make this an even more attractive proposition?

[Just_Steve]

The only reason I would have bought time was if it allowed me to punch out earlier.

[mountainsoft]

Quote:

Originally Posted by Teacher Terry This is a math question. My DH ran the math for both of us and the breakeven point was in our early 80's so we decided it was not worth it.

I ran a few tests in "Flexible Retirement Planner" and don't see that it would offer much benefit for us either. It sounded good in theory, not so much in practice.

Thanks for the feedback!

[nun]

Quote:

Originally Posted by Sunset With the limited data you have supplied, you could think of it as: 5.57% return on the 70K. This drops the more you pull from IRA as you would pay tax, so you could take some out of IRA, and borrow the rest, then each year for a few years take out enough from the IRA to pay off the debt. Basically spread the IRA withdrawal out over a few years to reduce the tax paid. Possibly use a HELOC for the source of funds so you get a low interest rate.

The OP would be moving the IRA to another qualified plan so there would be no tax on the rollover.....double check with the plan administrator, but when I did the same thing recently, purchase of additional time was allowed from IRA, 403b, 401k etc etc. and no tax was due.

If we assume a 30 year lifespan past 55 and 2% COLA then the IRR of the plan is 5.6%. If you are in good health and like the idea of a 5.6% return and it fits in with your overall asset allocation then go for it.

[Persn]

You should see whether your wife could pay for the service credit with a pre-tax payroll deduction.

This was possible when I looked into it several years ago, but I don't know if it is possible now.

[mountainsoft]

Quote:

Originally Posted by Persn You should see whether your wife could pay for the service credit with a pre-tax payroll deduction.

Unfortunately, we're already maxed out on savings and can't afford to set more aside right now.

I did some research last night and they do allow a tax free rollover from an IRA if it's in the same persons name. However, the IRA is mine so I would have to sell funds, get taxed, then purchase the additional service credits.

I ran some numbers and in most cases it just wasn't worth the trouble. Performance from the IRA was at least as equal as the income from the extra service credits.

[nun]

Quote:

Originally Posted by mountainsoft Unfortunately, we're already maxed out on savings and can't afford to set more aside right now. I did some research last night and they do allow a tax free rollover from an IRA if it's in the same persons name. However, the IRA is mine so I would have to sell funds, get taxed, then purchase the additional service credits. I ran some numbers and in most cases it just wasn't worth the trouble. Performance from the IRA was at least as equal as the income from the extra service credits.

If you would have to pay tax on a withdrawal from the IRA then I would forget the purchase of extra service.....5.6% (assuming an average lifespan and 2% COLA) is ok, but it's probably not worth raiding the IRA.

The extra payroll deduction is the way to go.

[Taxman59]

several years ago, I ran the # for my sister. for her, it was the vesting that was the true value. She was able to buy 5 years and be fully vested in the plan. Given that she worked for an elected judge, vesting was important. As it turned out, she made it to 25 years so the extra 5 bought her the full 30 year pension and the vesting was a non-issue. her return was about 6% on the purchase, not too bad.

[Big_Hitter]

can your wife accumulate 70K in a 401a dc plan in the next 7 years?

[Teacher Terry]

In our state it was a third of your yearly income to buy so really pricey. We could roll over $ from our deferred comp but still was not worth it. Mostly the people that did it used it to buy 5 years so they could retire with 30 years early. I only had 15 in so did not matter.

[Chuckanut]

Quote:

Originally Posted by Teacher Terry Mostly the people that did it used it to buy 5 years so they could retire with 30 years early. I only had 15 in so did not matter.

It's interesting how states differ. Social Security participation, buying retirement credits, benefits after retirement, etc.

In my state you can buy up to 5 extra years but those years can't be used to retire early. After you work enough years and you are old enough, you can retire. Then there are 60 days for you to decided if you want to buy extra service years. IMHO, they are a descent deal - not great - due to their limited COLA, and if one plans on living at least 20 more years after retirement.

[Big_Hitter]

Quote:

Originally Posted by Chuckanut and if one plans on living at least 20 more years after retirement.

that's always the rub...