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Tax implications: Pension vs. Partial Lump Sum
Old 05-15-2019, 02:10 PM   #1
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Tax implications: Pension vs. Partial Lump Sum

I知 53. I知 fortunate to have access to a generous pension benefit when I retire. Estimates show that income from the pension alone will place me at the top of the 22% tax bracket, with an effective tax rate of about 15%. My employer offers a partial lump sum option in exchange for a reduced annuity. This lump sum can be rolled over to my 401k tax-deferred and penalty free. It cannot be rolled over into a Roth. I would invest this lump sum in a total stock market/total bond market/international index fund allocation.

I知 weighing the pros and cons of taking a partial lump sum to drop my taxable pension income closer to the middle of the 22% bracket to free up some room for later distributions from the 401k. The thought is that because tax deferred 401k contributions are taxed as ordinary income, I have an interest in maintaining a room for distributions without bumping up to the next higher bracket (24%).

That said, the fact that the next higher bracket is only 2 percentage points higher is a factor. If I were bumping up to the 32% bracket I壇 be reducing the pension. I知 leaning toward maximizing the pension rather than lump sum because the risk inherent in stock market investing is eliminated with a pension. If both the pension income and 401k contributions are taxed as ordinary income and if the worst that happens is I知 bumped into the 24% bracket when I take RMDs or other distributions, then it seems to me I should take the higher pension.

I致e considered some Roth conversions down the road but that痴 not going to happen before I have to make this decision.

Thoughts?
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Old 05-15-2019, 02:15 PM   #2
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What are the numbers? You should compare the payout to a comparable annuity payment stream you could buy today, and see if it financially makes sense. I agree that worrying about 22% vs 24% isn't that big of a deal (we'll be in a similar situation in a few years).
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Old 05-15-2019, 02:19 PM   #3
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Your current plan may not allow you to turn it into a Roth while you are still employed there, but once you leave, I assume you should have the ability to roll the 401K over into a traditional IRA, then do a Roth conversion if the numbers suggested it?
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Old 05-15-2019, 04:00 PM   #4
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Quote:
Originally Posted by Austin704 View Post

The thought is that because tax deferred 401k contributions are taxed as ordinary income, I have an interest in maintaining a room for distributions without bumping up to the next higher bracket (24%).

If both the pension income and 401k contributions are taxed as ordinary income and if the worst that happens is I知 bumped into the 24% bracket when I take RMDs or other distributions, then it seems to me I should take the higher pension.

I misspoke: I meant to say 401k distributions (not contributions) are taxed as ordinary income.
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