Same wife's sister, different problem

[Elderdude]

The wife's sister is entitled to an uncol'd pension check for 30 years or a lump sum from Kaiser HMO. Again, the folks are reluctant to discuss actual figures. My best advice was that if she'd multiply the monthly amount by 12 and divide by the lump sum, she'd have the percentage she'd be earning on the monthly plan. If that % was below what a conservative investor in Treasuries could earn, take the lump sum and roll it into an IRA and invest it conservatively.

Since I and the wife are fortunate enough to have generous COL'd pensions from the State of California, the paltry sums we have accumulated in our 401k's have not led us to great investment wisdom or knowledge. (We are both in funds of funds, graded moderate to moderate aggressive.)

Given the limited information about my wife's sister and her options, what advice would you give her, or does a wise person walk away?

 

[MasterBlaster]

What is the the value of a payment stream ?

So for example, if you get a payment of $1000 a month at 65 (for example), expect to live to be 85, and the prevailing interest rate less inflation rate is 3 percent (that's 6 percent interest less 3 percent inflation)then using the following calculator.

http://www.4cdg.com/cgi-bin/calculators/missing.cgi

I get that the $1000 payment stream over your 20 year lifespan starting at 65 is worth $180,310.91 net (in todays dollars). If the lump sum isn't at least close to the computed amount then take the payment stream.

If you plan on dying young, then take the lump sum. If you plan on dying old then take the payments.

Use your own numbers to decide.

 

[FIRE'd@51]

If the pension is guaranteed for 30 years (even if she were to die earlier) then you can compare it to a 30-yr Treasury. However, remember with the 30-yr treasury there is a principal repayment at the end of year 30, which you don't get with the pension. Currently, the YTM on a 30-yr Treasury is about 4.75%, so the present value of the principal repayment is about 25% of the current bond price.

 

[d]

Same wife's sister

as opposed to a sister of a different wife?

 

[Elderdude]

I gave them my formula and the husband figured that the monthly payment amounted to a 8.5% annual return. I cannot use the calculator suggested by MasterBlaster because I wasn't given the actual figures. Given that once committed to the monthly payment, she cannot reverse the decision, it still apppears to me that 8.5% beats 4.75% of a 30 year Treasury. Am I missing something? I realize that the value of the fixed payment diminishes over time due to inflation but I do not believe these folks have the ability to manage the lump sum correctly to include a growth factor. They also have a trust problem, having been consistently burnt by poor advice from lawyers, accountants, enrolled agents and employers.

 

[d]

I do not believe these folks have the ability to manage the lump sum correctly ... also have ... been consistently burnt by poor advice

this is likely much more important information than would be the actual numbers. the above comments suggest that it would be dangerous for them to take the lump sum. with the 8.5% data in hand, however, i would suggest the alternatives be better evaluated to find out what would be the "cost" of taking the monthly vs the lump sum.

 

[MasterBlaster]

it still apppears to me that 8.5% beats 4.75% of a 30 year Treasury. Am I missing something?

What you are missing is

1) The principal gets spent down with the lump sum option.

2) Treasury rates are not a fair comparison. If you must compare to a prevailing rate use a long term corporate bond rate at ~ 6%.

So between spending down the principal and the long bond rates the number must be comparable.

As an aside, given the mistrust factor, and given the non-ability to manage a lump sum, then perhaps taking the monthly payments is the way to go. I read that people with a pension are happier than people with a nest-egg derived income. Evidently they worry less.

 

[Elderdude]

d,
You said, "...the alternatives be better evaluated to find out what would be the "cost" of taking the monthly vs the lump sum."

Could you expand on that?

 

[d]

assuming that the "value" of the pension would be less than the "value" of the lump sum if reasonably managed ... before taking the plunge, i'd want to know about what it's costing to do that. based on what you said, it's likely unwise to take the lump sum, but nonetheless, you should know what it's "costing".

 

[Caroline]

...or does a wise person walk away?

I may be projecting here but...

My sister has often asked for investment advice ("where should I put my money?") I always tell her I'll be happy to sit down and explain a few fundamentals -- she always replies that she's not interested in the boring details and that I should just tell her what to buy. I have always declined, under the belief that what she does not understand can hurt ME.

So she went to her boyfriend (large salary, significant savings, aggressively invested), who decided that for her situation (little salary, small savings) she should invest in something less risky.

You can just imagine what happened next. His risky investment went way up, hers poked along at a modest rate of growth, and she was PISSED OFF because she didn't get the gains that he did. No amount of explanation will mollify her, since she's no more interested in the boring details of risk and return now than she was before.

Seems to me that the person who has the money should be the person who should understand the issues and make the decision. Or NOT understand the issues and make the decision. When they don't understand the issues and can blame YOU for making the decision -- even if you only gave advice when asked -- life gets unpleasant.

Again, I don't know SIL and this may not be your situation at all. But your "wise person" comment brought this up for me so I'm sharing it.

Best of Luck!

 

[d]

very good point! but i don't think a "wise" person should walk away. a "wise" person might identify the alternatives, the benefits and detriments of each, and let the decision-maker decide. (if a suggestion is requested, it could be provided, underscoring the downside that the decision-maker would be accepting.) after "helping" a relative through a decision, i commented to my spouse that it was the most difficult several hours i had ever spent ... some folks only want to hear what they want to hear.

 

[Mr._johngalt]

... some folks only want to hear what they want to hear.

I have taken this a step further. I only want to hear what I have to say. )

JG

 

[FIRE'd@51]

You have enough information to estimate the rate of return on the pension. Assume the Present Value is 100, the annual payment is 8.50, the Future Value is 0, and the term is 30 years. The IRR of the payment stream is about 7.5%. This is the number to compare to the yield on a 30-yr Treasury or a 30-yr (non-callable) corporate bond which has the same risk of default as the guarantor of the pension.

 

[AltaRed]

As an aside, given the mistrust factor, and given the non-ability to manage a lump sum, then perhaps taking the monthly payments is the way to go. I read that people with a pension are happier than people with a nest-egg derived income. Evidently they worry less.

I would certainly agree with this. There is no apparent interest in being a semi-skilled DIY investor and there are good odds the financial sharks would take SIL to the cleaners. In this case, I think the montly payments would save SIL in spite of herself.

 

[d]

I think the montly payments would save SIL in spite of herself

but at least one problem remains: it would leave her having to deal with the ravages of inflation which, judging from the description, she will not be prepared to handle.

 

[youbet]

or does a wise person walk away?

Somewhere along the line, SIL has to be responsible for her own actions in regard to her retirement security and specifically her pension.

The good news with the annuity is that she won't get burned in the short run. If years from now, she's hurting due to inflation........well that's years from now.

If she takes the lump sum, give her the normal advise about shark attacks, diversification and all that. Then, back away.

Since SIL isn't sharing details of the pension arrangements with you, it doesn't sound like she is aggressively seeking out your advise. So, why put yourself in harm's way?

 

[FinanceDude]

You guys are forgetting the NUMBER ONE rule of investing:

NEVER EVER give your family members FINANCIAL ADVICE!!!

(At least the ones you LIKE)

 

[MasterBlaster]

You guys are forgetting the NUMBER ONE rule of investing:

NEVER EVER give your family members FINANCIAL ADVICE!!!

(At least the ones you LIKE)

Well you could broaden that to...

NEVER EVER give anyone ANY advice !

 

[FinanceDude]

Well you could broaden that to...

NEVER EVER give anyone ANY advice !

Then I wouldn't have a job.............

Then I'd be ER'd...........wait sounds good!!!

 

[d]

NEVER EVER give anyone ANY advice !

NEVER EVER give your family members FINANCIAL ADVICE!!!

...while i clearly understand the above advice, one can often not stand-by and simply observe a pending disaster ... esp if requested to assist. it is one thing to simply provide a "conclusion" and another to lay out the alternatives with their up- and down-sides, and the cautions re any particular course of action.

 

[FinanceDude]

...while i clearly understand the above advice, one can often not stand-by and simply observe a pending disaster ... esp if requested to assist. it is one thing to simply provide a "conclusion" and another to lay out the alternatives with their up- and down-sides, and the cautions re any particular course of action.

Far be it for me to understand everyone's family dynamics...... However, I can use my own example as a sad example for all to learn from:

1)My sister died last month, and left no will, letter of instruction, or anything as to give me a clue what she wanted done. Even though she had cancer for 6 and a half years, and I bugged her to do some planning, she never did........ strike one for me!

2)My brother worked for CISCO sytems back in the day, and had a TON of stock options. I told him I would cash out at least 50% in the years the Rule 144 window opens and 'diversify away" from CISCO. Bottom line, he didn;t listen to me, and lost 80%.....................strike two for me!

3)My BIL took my recommendations and went to an EJ rep two blocks from his house. He would have been a small account for me, but I was willing to help him for free..........so instead the EJ guy puts him in Putnam B shares..............strike three, I'm out!!!

I'm sure I'm an advisor..............at least my card says so.............

 

[d]

dude: at least two of those are not strikes against you, but those family members. you gave them decent advice which they chose not to follow. not your problem. re the third: did you recommend EJ, or just the funds? depending, it too is not your strike.

 

[HFWR]

You shouldn't "give" advice, but no one said you couldn't sell it...

 

[FinanceDude]

dude: at least two of those are not strikes against you, but those family members. you gave them decent advice which they chose not to follow. not your problem. re the third: did you recommend EJ, or just the funds? depending, it too is not your strike.

Just the funds, but I told him to do DCA direct, and not pay brokerage fees................but I digress.............

 

[Elderdude]

Thanks for the input and the funny Will Rogers like wisdom. I certainly can appreciate those who caution to stay away from dispensing financial advice to friends and relatives. But these are folks I care about, who have done and continue to do some awfully kind things for us. I lean towards the fixed payment due to thier circumstances and mind set which I won't go into. The husband agrees, but all the wife's fellow employees are all cashing out with the lump sum. And ultimately it is her decision.