Lately there have been instances where a former employee may have received an option for taking the lump sum distribution on their Pension, or to start receiving their pension benefit early. These companies include Cargill, Qwest (CenturyLink), 3M, NCR and many more. This is a major financial decision that may have a significant impact on your retirement. This article will attempt to provide an in-depth look as to why this is occurring.
Pension plans are becoming the less popular retirement option for companies these days. They would rather shift the liability of maintaining and selecting investments to the employees. This is typically achieved in the form of a 401k plan. This way, corporate profits no longer need to go to fulfill pension fund obligations. For the companies who still have pension plans, previous employees are still on the company books with their defined benefit. With employees living longer than they have before, pension funds are supporting workers longer in retirement and contributing more to cover obligations. Some companies are now offering a chance for you to take a lump sum option for a limited time only.
Why would the company be offering this right now? The informational packet enclosed in the documentation describes that it reduces the administrative costs of the plan and reduces the overall size of the plan. Both answers are true, but don’t answer why you received the packet right now. Why not next month or next year? One reason is contingent on the pension plans expectations of future interest rates.
In order for your pension plan to calculate a lump sum, they need an interest rate to project the Net Present Value of all monthly payments made to you over your lifetime. Their interest rate is based off the yield paid by Investment Grade Corporate Bonds. Prior to 2008, the rate used was strictly the 30 year Treasury rate. From 2008 until 2012, the rate was calculated using a weighted average between the 30 year Treasury rate and the rate of Investment Grade Corporate Bonds. So over the past 5 years, the rate used to calculate your lump sum has risen. The rate of a Treasury bond is essentially guaranteed because it is backed by the full faith and credit of the U.S. Government. A corporate bond is not guaranteed, meaning it’s interest rate, or yield, is to compensate investors for taking additional risk.
When calculating the lump sum, if the interest rate used increases, the value of the lump sum decreases. In any scenario, the higher the interest rate, the further the lump sum amount can stretch. A Pension fund has the liability/obligation to pay you for your lifetime. If interest rates are high, they can afford to pay you a smaller lump sum because that money can be projected to last longer than if the interest rate was lower. So why now? One reason is that the pension fund may expect future rates to be lower. So, if they were to offer you a lump sum in the future, they are assuming it would be higher than it is today.
You do have the option of taking the lump sum, starting your benefit, or doing nothing and wait to collect your benefit later. The right answer depends on your personal situation. This decision should be paired with your overall financial condition to determine the best outcome. This type of lifestyle event deserves an in-depth conversation with an advisor that is looking out for your best interest. In order to make the best decision possible, you should speak with an advisor that will insure your best interests are put first.
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