Value of pension and net worth

[pb4uski]

....I disagree with pb4uski's assertion that the life contingency negates that fact entirely, resulting in a valuation of zero. That's extreme. It's like assigning a zero value to all Accounts Receivable because the customer might go bankrupt tomorrow. You can easily make provision for such events based on history. In pb4's defense, there is an archaic accounting standard that specifically excludes life-contingent pensions from net worth. That standard is based on a liquidation basis of accounting (not going-concern basis) and thus has lots of other provisions that most people rightfully ignore, like reducing tax-deferred balances by the amount of tax owed on complete liquidation as of the measurement date. That's just beyond goofy.

As a practical matter, I think most people planning for retirement are better off just thinking about pension annuities and SS as an income stream that reduces the need for portfolio withdrawals. ....

IMO the exclusion of life-contingent annuities from assets for personal financial statements doesn't have anything to do with liquidation accounting ... not sure where you got that.

It has more to do with that fact that assets that are generally recognized based on enforceable legal rights to cash flows.... for an annuity you only have a right the annuty benefit if you are alive as of the date the annuity benefit is due.... at the point that a legal claim crystalizes and you have a valid enforceable receivable for the annuity benefit so at that point it becomes an asset.... but future benefits are not recognized because of you do not yet have a legally valid claim for those future benefits.

Accounts receivable are recognized as assets based on a legal right to collect money from the customer and it measured based on the contractual amount with an allowance for estimated uncollectibles. But similarly, if you had a contract to deliver $x of goods per month to a customer for y months, you won't recognize that right as an asset until the goods are delivered, at which point you have a legally enforceable right to collect from the customer.

In both cases the rights owned are contingent assets and are not recognized until a legally enforceable right exists.

In addition to the recognition issues for life contingent annuities, there were also significant measurement difficulties... especially when the issue was last decided in 1982.

Right, wrong or indifferent, AcSEC decided in 1982 not to recognize life contingent annuities as assets.... I suspect for the reason stated above although AcSEC didn't provide any basis for their conclusions. It is unclear if they were to reconsider that question today whether they would come to s different conclusion or not.... though I am struggling to think of similar assets with contingent cash flows that are recognized as assets.

While I understand that theory and it makes sense, it results in a decrease in net worth when one buys a life annuity, and that definitely doesn't make sense... so it does create an interesting theoretical conundrum.

Probably a lot more accounting theory than anyone cares about, so carry on.

I fully agree on the last part.

P.S. I wasn't at those AcSEC meetings but I suspect that another part of not recognizing life contingent annuities as assets in personal financial statements is that it would logically open the door to other life contingent streams like defined benefit pension benefits and social security benefits being recognized as assets.... and the attendant measurement challenges those would have posed in 1982.... a whole different rabbit hole.

 

[FI_RElater]

The term is "investable assets"

I use it for everything that I consider for using with my WR. If there is a defined term for this, tell me what it is. I often fall into using "net worth" for this but some people apparently can't tell what I mean even though it seems obvious to me in context. So I throw the word "investment" in there to try to differentiate.

Maybe it's just me, but your posts walk a fine line between giving hard truths that people may not want to hear, and taking shots. If this isn't your intent, maybe you want to think about your style. I've seen you clash with others, so I don't think it's just me.

I struggle with the same thing myself at times.

Except you didn't tell me how you would do it, you told me how I should do it. And maybe you can learn that there's more than one way to do things. I don't need to learn to do things your way when my way works just as well.

RB...
the proper term is "investable assets", which obviously doesn't include pensions, SS, etc and for the purposes of WR also don't include your personal house, although the net of rental property (after taxes, fees, etc on reasonable market value (usually reduced by some percentage to indicate that the sales may be due to inopertune timing and thus below (perfect) market value)) could be included

further adding to the dilemma is the nature of any pension and it's appropriate risk: federal (low risk), state and municipal (low to high risk, depending upon locale), corporate ( medium to high risk, depending upon the entity).... different conditions would lead to vastly different values.... but all have stated monthly or annual payouts (** that's ** what is important...)

Why try to compute a value for pension to add to investable assets to then compute what they could turn into cash flow?
it's already a cash flow! you only need to determine what additional cash flow your current investable assets could yield and then see if the total of both is adequate

 

[RunningBum]

Why try to compute a value for pension to add to investable assets to then compute what they could turn into cash flow?
it's already a cash flow! you only need to determine what additional cash flow your current investable assets could yield and then see if the total of both is adequate

Because it's not a current cash flow, in my case.

 

[Jerry1]

Do those of you who are Net Worth purists subtract the expected tax liability of your IRA/401K from your net worth?

I’m a CPA, and it is important to understand that it has always been an important consideration of how the information is used and by who as to how things are defined. If you’re just using it for your own use, you can infer any definition you wish. Hopefully you understand all the implications of doing so before you make an important decision. In the GENERAL sense, a pension would not be included in net worth because it is not an asset. Of course it has attributes of an asset, but it fails a critical test, that of valuation. Unless you know how long you and or your spouse are going to live, you cannot value the stream of income. You also cannot sell or transfer a pension as is normally the case of an asset.

As far as definitions go, there is an old joke. An engineer, a philosopher and an accountant are asked “what is 2+2”. The engineer gets out his slide rule (it’s a really old joke) and shows how it equals 4. The philosopher has deep thought about the meaning of 2+2 and never really comes to an answer. The accountant says “What do you want it to be?”

Accounting is an art, not a science. The main value of arguing definitions is primarily to be clear on the implications for the intended use and how said definition will impact that use.

 

[NW-Bound]

... An engineer, a philosopher and an accountant are asked “what is 2+2”. The engineer gets out his slide rule (it’s a really old joke) and shows how it equals 4...

No, you do multiplication and division with a slide rule, along with some other operations.

You cannot do addition and subtraction with a slide rule. You need an abacus for that.

Sorry, but I [-]am[/-] was an engineer and could not help it.

PS. We associate the abacus with the Chinese, but recently I saw a Youtube video where it was used in a store in a Soviet republic. Yes, and recently too. Son of a gun!

 

[RobbieB]

Add on a slide rule...

Yeah, that's pretty funny.

 

[Jerry1]

Well, “what do you want it to be?” I’m guessing 2x2?

I’ve never been accused of being a good joke teller or having a good memory. I bet the original joke would have used 2x2. A good joke writer would have paid attention to that sort of thing.

 

[Montecfo]

Do those of you who are Net Worth purists subtract the expected tax liability of your IRA/401K from your net worth?

I’m a CPA, and it is important to understand that it has always been an important consideration of how the information is used and by who as to how things are defined. If you’re just using it for your own use, you can infer any definition you wish. Hopefully you understand all the implications of doing so before you make an important decision. In the GENERAL sense, a pension would not be included in net worth because it is not an asset. Of course it has attributes of an asset, but it fails a critical test, that of valuation. Unless you know how long you and or your spouse are going to live, you cannot value the stream of income. You also cannot sell or transfer a pension as is normally the case of an asset.

As far as definitions go, there is an old joke. An engineer, a philosopher and an accountant are asked “what is 2+2”. The engineer gets out his slide rule (it’s a really old joke) and shows how it equals 4. The philosopher has deep thought about the meaning of 2+2 and never really comes to an answer. The accountant says “What do you want it to be?”

Accounting is an art, not a science. The main value of arguing definitions is primarily to be clear on the implications for the intended use and how said definition will impact that use.

Hi Jerry,

If I was publishing personal financial statements I would present a tax liability. But since I have no one to send them to, I do not find a need to do so.

I disagree with your characterization of an annuity as not being an asset. I also disagree that they cannot be sold. Happens every day.

Query if someone purchases an annuity, what is the accounting? If your view is correct, then presumably you would record a loss, which seems to not reflect the economic reality of the transaction.

Admittedly, personal financial statements are an oddity. I think when I was in public accounting, I prepared them only once. My recollection is they reflect more judgement than is typical for a business and there is less specific guidance.

Comments welcome.

 

[PandaBear]

I'm not retired yet (but dh is). While I don't consider my pension part of my net worth, it is a benefit to my net worth. When I retire, we will not have to utilize as much as our assets to maintain our lifestyle, because we will have the pension for income.

I think it can be confusing, because I consider my money/assets/pension to be combined in different ways for different purposes.
I consider my home and money (retirement/ savings/etc) to be my net worth. I don't count my pension because when I'm gone, I can't leave the payments to an heir.
But it's my money and pension that are my retirement assets. I don't count my home because I need to live somewhere.
I don't know how to count insurance. I can't use it for retirement assets but I also don't consider it part of my net worth, because I can't spend it if needed.

 

[NW-Bound]

Well, “what do you want it to be?” I’m guessing 2x2?

I’ve never been accused of being a good joke teller or having a good memory. I bet the original joke would have used 2x2. A good joke writer would have paid attention to that sort of thing.

It's OK. Even younger engineers would not know about slide rules. I got rid of my slide rule and bought my 1st scientific calculator, a National Semiconductor one, for $99 in 1975. That's $478 in today's dollars. Holy cow!

Anyway, I did some research on abacus, and found the following. By the way, the Russian abacus is different than the Chinese abacus.

Although today many use calculators and computers instead of abacuses to calculate, abacuses still remain in common use in some countries. Merchants, traders and clerks in some parts of Eastern Europe, Russia, China and Africa use abacuses, and they are still used to teach arithmetic to children.

As a simple, cheap and reliable device, the Russian abacus was in use in all shops and markets throughout the former Soviet Union, and the usage of it was taught in most schools until the 1990s.

 

[target2019]

Hi Jerry,

If I was publishing personal financial statements I would present a tax liability. But since I have no one to send them to, I do not find a need to do so.

I disagree with your characterization of an annuity as not being an asset. I also disagree that they cannot be sold. Happens every day.

Query if someone purchases an annuity, what is the accounting? If your view is correct, then presumably you would record a loss, which seems to not reflect the economic reality of the transaction.

Admittedly, personal financial statements are an oddity. I think when I was in public accounting, I prepared them only once. My recollection is they reflect more judgement than is typical for a business and there is less specific guidance.

Comments welcome.

I'm not Jerry, but have comments.

Once annutized, I don't think the beneficiary can sell the annuity. I could be wrong.

A personal financial statement (PFS) from an individual or couple is an oddity, but people put these numbers down, in cases like a FAFSA application. Since there is not 100% agreement on PFS contents, it always comes as a surprise of sorts, and you're left wondering why "they" ask for this and that. I've come to the conclusion now that a PFS is whatever it needs to be, as some have said above.

 

[Jerry1]

I never called it an annuity. It’s a pension per the original post. I’ve never heard of one being sold. Closest thing would be for the employer to buy you out but since that’s not at your discretion, it fails in that characteristic of on asset.

 

[RunningBum]

Do those of you who are Net Worth purists subtract the expected tax liability of your IRA/401K from your net worth?

I’m a CPA, and it is important to understand that it has always been an important consideration of how the information is used and by who as to how things are defined. If you’re just using it for your own use, you can infer any definition you wish. Hopefully you understand all the implications of doing so before you make an important decision. ...

I like this view. And yes, I subtract the expected tax liability of those accounts, and my pension/SS, and unrealized capital gains. The main reason is from back when I had employee stock options that were going to be taxed heavily as regular income when exercised. This gave me a more accurate picture of what I would really have. It didn't make any sense to me to include the full amount, and then budget a large tax amount in the year I projected to exercise.

Once I went down this path, I included the expected liability for other things like that--all but future dividends and interest. It still makes sense with Roth conversions--I can do a conversion, or not, and it does not impact my "investment net worth" if I've estimated taxes correctly, nor does it throw off my withdrawal allowance for the year.

btw, someone said the correct term for this "net worth" is "investable assets" but since I include the tax liability, that's not accurate, so I'm not going to use it. You know, I think I'm just going to use "net worth", and if people can't figure it out in context, or refuse to try, that's their issue.

 

[Ready-4-ER-at-14]

No, you do multiplication and division with a slide rule, along with some other operations.

You cannot do addition and subtraction with a slide rule. You need an abacus for that.

Sorry, but I [-]am[/-] was an engineer and could not help it.

PS. We associate the abacus with the Chinese, but recently I saw a Youtube video where it was used in a store in a Soviet republic. Yes, and recently too. Son of a gun!

As long as we are having fun here with old technology, a slide rule actually adds or substracts the logarithmic value of numbers, which is why the space from 1 to 2 is so much of the length and 9 to 10 is teeny tiny. : )

 

[joeea]

I’m a CPA, and it is important to understand that it has always been an important consideration of how the information is used and by who as to how things are defined. If you’re just using it for your own use, you can infer any definition you wish. Hopefully you understand all the implications of doing so before you make an important decision. In the GENERAL sense, a pension would not be included in net worth because it is not an asset. Of course it has attributes of an asset, but it fails a critical test, that of valuation. Unless you know how long you and or your spouse are going to live, you cannot value the stream of income. You also cannot sell or transfer a pension as is normally the case of an asset.

The main value of arguing definitions is primarily to be clear on the implications for the intended use and how said definition will impact that use.

Thank you for that. Hopefully, your comments will aid in understanding.

 

[Ready-4-ER-at-14]

I like this view. And yes, I subtract the expected tax liability of those accounts, and my pension/SS, and unrealized capital gains. The main reason is from back when I had employee stock options that were going to be taxed heavily as regular income when exercised. This gave me a more accurate picture of what I would really have. It didn't make any sense to me to include the full amount, and then budget a large tax amount in the year I projected to exercise.

Once I went down this path, I included the expected liability for other things like that--all but future dividends and interest. It still makes sense with Roth conversions--I can do a conversion, or not, and it does not impact my "investment net worth" if I've estimated taxes correctly, nor does it throw off my withdrawal allowance for the year.

btw, someone said the correct term for this "net worth" is "investable assets" but since I include the tax liability, that's not accurate, so I'm not going to use it. You know, I think I'm just going to use "net worth", and if people can't figure it out in context, or refuse to try, that's their issue.

I fear you have given me a plan for a more complete view on my retirement cash flow that I need to emulate. I have 3 types of annuities. Cash bought.. pay full taxes on 1/3 of cash flow (rest is return of principle), bought in IRA pay full taxes, bought in Roth brokerage is owner for benefit of me (no taxes). Is a real pain estimating income as they turn on one by one as I try to max out IRA to Roth conversions.

 

[retire202052]

Do those of you who are Net Worth purists subtract the expected tax liability of your IRA/401K from your net worth?

I’m a CPA, and it is important to understand that it has always been an important consideration of how the information is used and by who as to how things are defined. If you’re just using it for your own use, you can infer any definition you wish. Hopefully you understand all the implications of doing so before you make an important decision. In the GENERAL sense, a pension would not be included in net worth because it is not an asset. Of course it has attributes of an asset, but it fails a critical test, that of valuation. Unless you know how long you and or your spouse are going to live, you cannot value the stream of income. You also cannot sell or transfer a pension as is normally the case of an asset.

As far as definitions go, there is an old joke. An engineer, a philosopher and an accountant are asked “what is 2+2”. The engineer gets out his slide rule (it’s a really old joke) and shows how it equals 4. The philosopher has deep thought about the meaning of 2+2 and never really comes to an answer. The accountant says “What do you want it to be?”

Accounting is an art, not a science. The main value of arguing definitions is primarily to be clear on the implications for the intended use and how said definition will impact that use.

I actually laughed out loud at your joke

 

[38Chevy454]

After reading all the discussion, I think what was confused in the topic is the complication of net worth and spending. Since spending is a known value, it is easy to understand "My budget is $5000 per month" or whatever. Spending also requires getting that money from whatever sources a person has available. It really does not matter what net worth is in a dollar amount sense, as there are items in net worth that do not generate the money for the spending. So a person can put whatever they want into their net worth calculation, but in the end it is a number that has no correlation to spending.


As I and several suggested earlier, pension is an income stream that offsets your required income. So is SS or other regular incoming money not from wages.


I do not personally worry about what net worth I have, beyond a vague number. Because I can add items to that to increase the number value, but they have nothing to do with my spending. The amount of money I can spend is what matters.

 

[pb4uski]

Hi Jerry,

If I was publishing personal financial statements I would present a tax liability. But since I have no one to send them to, I do not find a need to do so.

I disagree with your characterization of an annuity as not being an asset. I also disagree that they cannot be sold. Happens every day.

Query if someone purchases an annuity, what is the accounting? If your view is correct, then presumably you would record a loss, which seems to not reflect the economic reality of the transaction.

Admittedly, personal financial statements are an oddity. I think when I was in public accounting, I prepared them only once. My recollection is they reflect more judgement than is typical for a business and there is less specific guidance.

Comments welcome.

That is the conundrum... if one purchases a life-contingent annuity then there is a loss and a reduction in net worth... in theory one has exchanged cash for a contingent asset and you only have a legally enforceable claim to the annuity benefit if you are alive on the relevant date that month. If life contingent annuities were recorded as assets there would be some very interesting measurement issues.... if the annuitant was diagnosed with some critical illness then the value would go down and you would have a loss? if they recovered then the value would go up an you would have a gain? The issue is that mortality tables are relevant for a group of lives but for a single life is very dicey and arguably irrelevant.

While annuities are "sold".... it is not really a sale.... one is assigning their right to receive annuity benefits to a third party in exchange for an upfront cash payment... if annuities were recorded as assets technically I think you still have the asset (the insurer still has an obligation to make payments to you if you are still alive) and a corresponding liability (for the assignment of benefits to the purchaser of the annuity).... I don't think legal right of offset necessary to extinguish the asset would exist.

Under the SOP, life annuities would be disclosed and you would disclose the contract, the nature of the rights to benefits and you could even disclose the value of the benefits and deferred taxes if you wish.... that would provide the users of the PFS the opportunity to include the life annuity in net worth if they wish to.... similar to the extensive disclosure of the fair value of financial instruments that are recorded at other than fair value provides users of the financial statements to adjust the recorded amounts if they wish to.

 

[brett]

We include it in our assets when we are reviewing investment allocation. The current value reflects part of our fixed income allocation.

We do not include the current value in our net worth.

 

[Montecfo]

That is the conundrum... if one purchases a life-contingent annuity then there is a loss and a reduction in net worth... in theory one has exchanged cash for a contingent asset and you only have a legally enforceable claim to the annuity benefit if you are alive on the relevant date that month. If life contingent annuities were recorded as assets there would be some very interesting measurement issues.... if the annuitant was diagnosed with some critical illness then the value would go down and you would have a loss? if they recovered then the value would go up an you would have a gain? The issue is that mortality tables are relevant for a group of lives but for a single life is very dicey and arguably irrelevant.

While annuities are "sold".... it is not really a sale.... one is assigning their right to receive annuity benefits to a third party in exchange for an upfront cash payment... if annuities were recorded as assets technically I think you still have the asset (the insurer still has an obligation to make payments to you if you are still alive) and a corresponding liability (for the assignment of benefits to the purchaser of the annuity).... I don't think legal right of offset necessary to extinguish the asset would exist.

Under the SOP, life annuities would be disclosed and you would disclose the contract, the nature of the rights to benefits and you could even disclose the value of the benefits and deferred taxes if you wish.... that would provide the users of the PFS the opportunity to include the life annuity in net worth if they wish to.... similar to the extensive disclosure of the fair value of financial instruments that are recorded at other than fair value provides users of the financial statements to adjust the recorded amounts if they wish to.

I do not think there is truly any conundrum in a practical sense. It is not logical or practical to record a loss when you buy an annuity. Similarly a pension has clear value and pension rights are funded based on actuarial values.

And, while a life continent annuity may not be good collateral for a bank loan, it is excellent "collateral" for funding retirement, which is what most are doing here. Same with a pension.

If you view your net worth as that which can possobly part of your estate, only pension and annuity guaranteed minimums would be included. Amounts you paid in to a pension would qualify, for example.

If you are trying to reflect assets available for living costs during your lifetime, pensions and annuities could be included. Of course, for most of us the more important element is cash flows.

Or so it seems from here.

 

[NW-Bound]

I am sure pension and SS benefits are assets. It's just not easy to convert it to something more tangible like cash in a bank account.

Good looks and good health are also assets. These are even harder to put a dollar amount on.

To me, it's a simple test to see if something is an asset. I ask myself, "Would I want to have it?". If the answer is yes, then it's an asset, even if I am not able to sell it.

 

[Tyrone]

So, based on the tongue and cheek response to my question about the usefulness of calculating ones net worth, along with my reading of the above machinations, it seems figuring out one's net worth is for personal reassurance and to play a parlor game.

 

[RunningBum]

So, based on the tongue and cheek response to my question about the usefulness of calculating ones net worth, along with my reading of the above machinations, it seems figuring out one's net worth is for personal reassurance and to play a parlor game.

It seems you did not read my post #24 in response to your question.

 

[Nature Lover]

...

Under the SOP, life annuities would be disclosed and you would disclose the contract, the nature of the rights to benefits and you could even disclose the value of the benefits and deferred taxes if you wish.... that would provide the users of the PFS the opportunity to include the life annuity in net worth if they wish to.... similar to the extensive disclosure of the fair value of financial instruments that are recorded at other than fair value provides users of the financial statements to adjust the recorded amounts if they wish to.

This ^ and thank you for posting it (my bolding added). Clearly, some of us include them and some of us exclude them, both for good reasons.