Pension Payout Decision: The Break-Even Analysis Most People Miss

Should you take the pension lump sum or monthly payments? It's one of the most important — and most permanent — financial decisions you'll make in retirement. And most of the advice out there starts and ends with the math.

Today, Taylor walks you through The Pension Clarity Test: three questions that go beyond the spreadsheet and help you make the pension decision you won't second-guess at 80.

We'll cover how to evaluate a pension lump sum vs. monthly payments, the break-even math most people miss, the survivorship question every married couple needs to have, and the long-term reality of managing a lump sum through 30 years of market cycles.

Whether you're sitting on a pension buyout offer, weighing a defined benefit plan payout, or just trying to figure out the right pension payout option before retirement, this episode gives you a framework that works for your life — not just your spreadsheet.

WATCH NEXT
4 Mistakes To Avoid If You Have a Pension → https://www.youtube.com/watch?v=-tZ-CMku0CA

Resources:

Website:  https://www.demarsfinancial.com/

Phone: (509) 536-9556

Schedule an introduction call with Taylor: https://bit.ly/demarspodcast

Check out Taylor's YouTube Channel: https://www.youtube.com/@TaylorMadeRetirement

Taylor's Newsletter: https://demars-financial-group.kit.com/827c64fe0e

Disclaimer: Since we don't know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Demars Financial Group, LLC or its members cannot be held liable for any use or misuse of this content. Advisory services offered through Demars Financial Group LLC, a Registered Investment Advisor. Demars Financial Group is not affiliated with LPL Financial.

Transcript

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Today's content is pulled from Taylor's YouTube channel. If you want to watch the video version or catch more great content, subscribe by clicking the link in today's show description. Welcome to Taylor Made Retirement, where we explore what it takes to build a retirement that works for your money and your life. With third generation certified financial planner Taylor DeMars.

SPEAKER_00 0:28

Jim came to me at 61 with three spreadsheets, two calculators, and one question he couldn't answer. Lump sum or monthly payments. He had run every scenario, compared every rate of return, and he still couldn't pull the trigger. Because his wife Linda kept asking him a question he didn't want to think about. The question that his spreadsheets couldn't answer, and it had nothing to do with the math. My name is Taylor DeMars, I'm a certified financial planner, and after helping hundreds of people work through retirement decisions, I can tell you the math is the easy part. So today I'm going to walk you through what I call the pension clarity test. Three questions that will actually determine which pension is right for you. So let me tell you about Jim and Linda. Jim is 61, senior operations manager at a manufacturing company. He's been there over 30 years. Linda is in her late 50s working part-time as a school administrator. And together they've saved close to$3 million across their 401ks and brokerage accounts. Jim's company is offering him a pension where he can take about$4,800 a month for life. Or he can take a lump sum of about$850,000 and invest it himself. And as Jim told me, I feel like I've got a lot of moving parts here. I've been running numbers for weeks. And he wasn't exaggerating. He's a pretty analytical person. He had three different spreadsheets comparing the options, and he was running the same calculations over and over, telling me, I only got to plan one retirement and I don't want to get this wrong. So here's what I told Jim. Your pension decision may actually be even more consequential than your Social Security decision, which is what most people don't actually think about. Because Social Security at least gives you some flexibility where you can claim as early as 62 or continue to delay for up to eight years until 70, as your life may be changing. Not to mention that Social Security has cost of living adjustments built in where your check goes up with inflation. But pensions, most don't give you any of that. You pick once, or maybe have one other option to choose, and that check lives with you forever. And you get to live with that choice for the rest of your life. And that's why this decision deserves more than a spreadsheet, in my opinion. And yet every video I've seen on this topic starts and ends with the math, the rate of return comparison, the break-even analysis. And yes, those things matter, but they're not the whole picture, not even close. So let's start where Jim started with the math. Because here's what most people don't realize. The math on this decision is rather straightforward. It's everything the math doesn't capture that makes it hard. When you compare a pension lump sum with monthly payments, there's one core question the math tries to answer. What rate of return does yet the pension company think your money will earn? Because your pension company bakes a rate of return into their offer, and it's simpler than it sounds. If your company offers you$4,800 a month for life or$850,000 for a lump sum, they're making a bet, saying, we think we can invest this$850,000 and pay you$4,800 a month until you pass away. In other words, the pension company is telling you how confident they are that they can do better with your money than you can. And that gives you a rough sense of how hard you'd have to work to come out ahead on your own. In a rough apples to apples comparison, Jim's lump sum would need to earn something in the mid-single digits just to keep pace with the pension. If he can beat that, the lump sum comes out ahead over time. If he can't, the monthly payments would have been the better deal financially. Now, that's not an overly simplified comparison, because the math depends on things such as survivorship elections, longevity assumptions, inflation, and others plan specific details. But it gives you a starting point. And then you talk about the break-even question. How long do you need to live for the monthly payments to win? For Jim, that number was roughly in his early 80s, depending on the assumptions we bake in. Living past that and the monthly payments, put more total dollars in his pocket. Falling short, and the lump sum wins on paper. And here's where a lot of people stop. They look at the breakeven age and they look at the implied rate and they say, I could beat that. Give me the lump sum. And for a lot of folks, that's the right instinct. If you're trying to figure out what these numbers look like for your own pension, that's exactly where we help people work through it. The link is in the description if you want to book a call and see if we're a fit. Because there's a piece in all of this math that it doesn't capture inflation. Most pension payments are fixed. That$4,800 a month Jim would receive, it's$4,800 today, and it's$4,800 20 years from now. Meanwhile, the cost of everything around him keeps rising. So the purchasing power of that check shrinks every single year. The lump sum, invested well, has the potential to grow and keep up. That's the argument for taking the money. So if you're sitting here right now thinking, sounds like the lump sum is the obvious choice. I could see that. On paper, it often looks that way. And Jim thought so too, and his spreadsheet told him take the lump sum. So on paper he was right. But that's when we started to walk him and his wife through the pension clarity test. The three questions that change everything. Because the math gives Jim an answer, the clarity test gives him clarity. And I feel there's a real difference. So question number one Does your income work without the pension? Here's how I how I think about this. For example, your Social Security is your income floor. It's the money that shows up no matter what the market does, no matter what the economy looks like. If you or your spouse has another pension, that counts too. Now, if your guaranteed income floor already covers your essential expenses, food, housing, insurance, the basics, then you've got more freedom with the pension decision. You can afford to take some risk with the lump sum because you're not depending on it to keep the lights on. But if you're like most retirees, your guaranteed income falls short of your essentials. And this is where the monthly pension payment fills a real gap. Taking the monthly payments is a lot like insuring your house. You're not hoping for a fire. You're making sure that if something goes wrong, you're covered. The pension check shows up whether the market crashes, whether you get sick, whether you live to 95. It's not the most exciting choice, but exciting isn't the real goal when the decision is permanent. Jim and Linda's combined Social Security would come out to around$5,500 a month. Their essential expenses are around$7,500 a month. And that gap mattered. The pension's$4,800 a month would more than close it. And that gave Jim some real confidence about the monthly option. And then I asked a question that he wasn't expecting, which is number two, what does your spouse's life look like without you? And this is the question most people skip. It might be, in my opinion, the most important one. Because when you take a monthly pension, you usually get to pick a survivorship option, and you can take the full$4,800 and it'll all go away when you die, whether it's 30 years or 30 days. Or you can take a reduced amount and have those payments continue to your spouse for the rest of their life. For Jim, the 75% option would mean about$3,600 a month going to Linda, the 50% option around$2,400 to her. If Jim takes the lump sum and manages it well, Linda inherits the full balance when he passes. But if the market is down or when Jim passes, or if the money has been drawn down significantly over 20 years, or if Jim made decisions at 80 he wouldn't have at age 60, Linda's safety net gets much smaller. If Jim takes this monthly payment with 100% survivorship, Linda gets every dollar of that check for the rest of their joint lifetimes. No matter what. And that survivorship election is a big part of what makes the monthly pension more valuable than a simple single life comparison would suggest. That was the heart of Linda's real question. Not what's the rate of return, what's the break-even age. Her question was, will I be okay when you're gone? Jim had been building spreadsheets for weeks. Linda had been carrying that question for months. Now, if you know someone who's staring at this exact decision right now, and there's a good chance you do, send them this video. Sometimes the most helpful thing you can do is show someone that they're not the only one wrestling with this. This brings us to question number three. Can you manage this money for the next 30 plus years? Because Linda's question changed the conversation, but there was still another question left. And it wasn't about their income or their marriage, it was about Jim himself. Everyone feels that they can handle a down market until it happens. Managing the lump sum means that you are the pension fund now. You're the one managing that money through every market cycle for the next 25, 30 plus years. We're talking bull markets, bear markets, recessions, recoveries, all of it. And Jim told me, I'll be fine. I've been investing for 30 years. And then Linda said something that stopped the conversation entirely. Something to the effect of, Jim, don't you remember the Great Recession? You didn't sleep for months during 2008. And this shifted just Jim's perspective. Because the question isn't whether you can handle a 30% drop at age 61, because you likely can, but the question is instead, can you handle that 30% drop at age 78 and still make the smart move? When you're sitting at the kitchen table on a Wednesday morning, the portfolio is down hundreds of thousands of dollars, and you're the one who has to decide what to do about it. No committee, no advisor reviewing it for you, just you, a brokerage login, and a decision that could reshape the next 15 years of your life. And it goes deeper than market risk. Cognitive decline isn't hypothetical. According to the Alzheimer's Association, about one in three people over age 85 are living with some form of dementia. Taking the lump sum is like saying, I'm going to fly this plane manually for the next 30 years. And you very well could. But at some point, and nobody knows exactly when, your hands may not be as steady on the controls. The monthly payment is the autopilot. It doesn't need you to make good decisions at 85, it just shows up. The lump sum requires active ongoing management, at a minimum, someone you trust, if not yourself, to manage it for you for decades. Do you have that person? Have you talked to them about it? Does your spouse know the plan if you're not able to make these calls anymore? These are the things Jim was wrestling and hadn't thought about before. Because he was so focused on the Excel formulas that he hadn't stopped to ask, what happens when I'm 83 and this money still needs managing? Which was the question that shifted everything for him. So for Jim and Linda's situation, Jim had to come in ready to take the lump sum because, well, the math supported him. The rate of return made it make sense. On paper, it was a better deal. But after working through this framework, the picture changed where their guaranteed income wasn't enough yet to cover essentials without the pension. But between the survivorship conversation, the one that he had been avoiding, it turned out to be the most important 20 minutes that they had spent on retirement planning. And Jim was honest enough to admit that his confidence about managing a lump sum through his 70s and 80s wasn't as solid as they first thought. So for their situation, it made sense for them to choose the monthly payment with 100% survivorship. Linda would receive the entire check that would remain to her for the rest of her life, whether Jim was there or not. Their pension plus their Social Security covers a significant amount for their guaranteed income, well above their essential needs. When we ran the projections under our planning assumptions, the plan looks strong well into their 90s. And the$2.8 million and their nest egg and their other assets, I like to think of this as the dual capital framework. The pension protects their financial capital. But that$2.8 million that funds their life capital. Travel, gifts to the grandkids, the experiences they've been saving for, the money that actually lets them live, not just survive. So Jim told me later that the hardest part wasn't the math. It was just sitting down with Linda and having the hard conversation about what happens if he's not there. But once they had gone through it, the decision became clear. Now I can imagine some of you are watching this thinking, but my situation's different. I've been a good investor and managing my own money for decades and done fine. And I don't disagree with you. For many people, the lump sum is the better answer. If your guaranteed income already covers the essentials, you may have the temperament to manage investments through decades of market cycles. And if you had the survivorship conversation with your spouse and you're both comfortable with the plan, the lump sum gives you more flexibility and more growth potential along the way. And one more thing for the record. If an advisor is telling you to take the lump sum, it's worth asking who benefits from that recommendation. There's no asset under management fee on a monthly pension check. But the lump sum, that's money that they can manage and a fee that they can charge. And ourselves as well, to be transparent. But this doesn't mean that the lump sum recommendation automatically implies bad intentions. But you want to be sure whoever's advising you on this decision has your best interests at heart and not just their bottom line. The pension clarity test isn't here to tell you which option to pick clearly. It's here to help you evaluate trade-offs and make sure you're picking it for the right reasons. Not because a spreadsheet or a software told you to, but encompassing your entire life, spouse, future, and a decision that you hopefully won't second guess at age 80. Because at the end of the day, I feel personal finance is more personal than finance. The right answer is different for everyone. But I find the pension clarity test is the same. It's the income floor, the spousal protection, and the 30-year test. So after Jim had walked in thinking he needed better math, he walked out knowing his wife would be better off for their specific circumstances. Unfortunately, you don't get to rehearse retirement. It's a live performance. And this decision is just the opening act. If you're facing this decision and you want to work through the pension clarity test and the math with someone who's done it for people just like you, click the link in the description or scan the QR code on screen to book a call with me. We'll look at your specific numbers and situation and help you make a choice that you won't second guess. And if you're looking for more about pensions to know the four biggest mistakes people have with their pensions, see the video on screen now.