Why I Turned Down My Former Employer's Lump Sum Buyout Offer
I once worked for a company that offered a defined benefit (DB) pension plan. Over the years, I chose to delay receiving payments from the plan. Recently, I received a letter explaining that I could take a one-time lump sum buyout. This option allows former DB plan participants to receive a cash payment upfront in exchange for giving up future monthly pension payments.
Rejecting a pension lump sum buyout can feel like walking away from a small fortune. Still, after analyzing my situation, I declined the offer. Here’s why.
What a Lump Sum Buyout Means
A lump sum buyout is a limited-time offer. It provides former employees with the option to accept a one-time payment now rather than smaller monthly checks for life. Once accepted, the offer cancels future pension benefits from that plan.
Choosing whether to accept or decline this type of offer requires more than gut instinct. It demands a clear understanding of your financial health, long-term goals, and personal discipline.
How Interest Rates Affect the Lump Sum
Interest rates directly influence the size of a lump sum payout. When rates are low, lump sum values increase. When they rise, payouts decrease. At the time I received the offer, interest rates had reached their highest point since 2008.
Because the lump sum was calculated using these higher interest assumptions, the check was smaller than it would have been in a low-rate environment. This alone made the offer less attractive.
Health and Life Expectancy Matter
Pension payouts are structured around life expectancy tables. If someone expects to live longer than average, monthly payments over time could exceed the value of a lump sum.
My wife and I both enjoy strong health, and we expect to live well beyond the average for our age group. That tipped the scale in favor of guaranteed monthly income for life instead of a one-time payout that could run dry.
Evaluating Employer and Pension Plan Stability
Another key factor is the financial strength of your former employer and its pension plan. If a company struggles or goes out of business, it could jeopardize the pension fund.
In my case, my former employer remains financially sound. The pension plan remains well-funded. While the Pension Benefit Guaranty Corporation (PBGC) provides some insurance, relying on it carries risk. Knowing the company stands on solid ground gave me confidence in continued monthly benefits.
Tax Implications of Lump Sum vs Monthly Payments
Monthly pension payments are typically taxed as ordinary income. They cannot be rolled into an IRA. A lump sum payout, however, can be rolled into a traditional IRA, allowing the funds to grow tax-deferred until required minimum distributions begin.
Even though rolling over the lump sum could offer more control over withdrawals and investment choices, I valued the predictability of lifetime income without worrying about managing an IRA account.
Self-Control and Spending Habits
Large lump sum checks can be tempting. Having access to a significant amount of money can cause some people to spend recklessly or make risky investments.
I know my own spending habits. Taking the buyout could have jeopardized our future financial stability. I chose the security of consistent payments instead.
Spousal Consent Is Required
If you're married, your spouse must agree before you can receive a lump sum. This legal requirement protects spouses from financial surprises.
My wife and I discussed the offer extensively. After reviewing our finances, we agreed that turning it down provided more peace of mind.
The Final Decision
After reviewing every factor—interest rates, our health, financial security, tax rules, and our spending habits—I decided to reject the lump sum offer. It was not an emotional decision; it came down to logic and long-term planning.
Turning down the offer meant saying no to the biggest check I’ve ever seen. But it also meant saying yes to guaranteed lifetime income for both of us.
FAQ's: Lump Sum Pension Buyout Decisions
What is a lump sum pension buyout?
A lump sum buyout is a one-time payment that replaces future monthly pension checks.
Does interest rate impact my pension lump sum?
Yes. Higher interest rates result in smaller lump sum offers, while lower rates increase the payout.
Can I roll over a pension lump sum to an IRA?
Yes, if you accept a lump sum, you can roll it into an IRA and defer taxes until withdrawal.
Is a monthly pension safer than a lump sum?
Monthly pensions offer guaranteed income for life, while lump sums rely on your ability to manage and invest the funds wisely.
What if my employer’s pension plan is underfunded?
If your employer is in financial trouble, accepting a lump sum could reduce risk, though PBGC offers limited insurance coverage.
Do I need my spouse's consent for a lump sum?
Yes. Federal law requires spousal consent before you can take a lump sum distribution from a pension plan.
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Christian Cordoba, founder of California Retirement Advisors, has been a member of Ed Slott's Master Elite IRA Advisor Group since 2007.