A Pension Distribution Guide: What You Need to Know
By Daniel Baumgartner & Petra Peters
Even though 401(k) and IRA plans have earned more attention in the last few decades, pensions are still a desirable retirement plan, offering reliable financial stability with a guaranteed monthly payment. However, pensions have some key differences from other plans you should know about, particularly in how funds are distributed. In this pension distribution guide, we take a look at the two primary ways pensions are distributed.
What Pensions Are and How They Are Calculated
A pension is a retirement plan in which employers set aside a sum of money for employees to use after they leave the workforce. The most notable difference between pensions and other retirement plans is the employer’s responsibility to maintain the fund, either by themselves, a pension fund, or a third-party organizer. On the other hand, 401(k) and IRA plans are more self-directed because the employee contributes funds to them.
While employers may have their own criteria for calculating pensions, most of them consider these factors:
- The employee’s final average salary
- Their number of years of service
- How much in pension benefits the employee earns for each year of service
Other variables include cost-of-living adjustments and whether the employee opts for survivor benefits.
Pension Distribution: Two Payment Options
Employees have a choice when it comes to pension payouts—whether to receive them as monthly annuity payments or a one-time lump-sum payment.
Monthly Annuity Payments
The monthly annuity payment is the most common method for receiving pension payouts, although lump sums are gaining in popularity. With an annuity plan, you receive a check every month for a specified time—potentially the rest of your life.
Employees are aware of how much money they’ll have in their pension fund while they’re still working, making payouts predictable and stable. They don’t have to worry about their benefits running out before they die. Monthly payments might be preferable to those who want to manage their budget regularly.
However, inflation could potentially sap the purchasing power of someone taking monthly annuities if the monthly rate is permanently set. Many employers, especially public ones, offer pension plans with cost-of-living adjustments (COLAs) that keep pace with inflation.
With monthly annuity payouts, you have three options for taking distributions:
- Single-life: Payments last for your lifetime only and stop when you die.
- Joint-and-survivor: Your annuity can be paid out during your lifetime in addition to the lifetime of your spouse or beneficiary; after you pass on, your survivor gets a portion of your pension payouts monthly for the rest of their life.
- Period-certain: With this option, pension payouts are distributed over a certain time.
A period-certain option is often used in conjunction with the joint-and-survivor option so a third beneficiary can get income if both you and your spouse die before the end of the period.
Lump-Sum Payments
You may choose to get your pension payment all at once in a lump sum. You can receive the benefit in straight cash or have your employer roll it over to a tax-deferred IRA.
Lump-sum payments are calculated according to your projected life expectancy and current interest rates. Payouts tend to be higher when interest rates are low.
The main benefit of lump-sum payments is that you maintain control over your cash. You can use the payment to invest if you choose. Remember to manage the lump sum wisely—you could spend it too soon or lose money on bad investments.
Pension Distribution: Make the Right Decision
We hope this pension distribution guide has helped you understand your options for payouts after you retire. To get the most out of your payments, it’s a good idea to team up with an experienced financial advisor.
Find Out More From Terra Nova
Terra Nova Asset Management is different from other financial advisory companies. We focus more deliberately on the visions our clients have for their ideal financial and personal scenarios. Our team takes time to learn what’s important to our clients so we can build strategies that meet their goals.
Does it seem like we may be a good fit? Contact Terra Nova directly at 212-355-1234 or ppeters@terranovausa.com for the New York office (Petra) or 855-248-6630 or baumgartner@terranovausa.com for the New Jersey office (Daniel). You may also contact us here to schedule a meeting and we’ll get in touch with you soon!
About Daniel
Daniel Baumgartner is a founding partner of Terra Nova Asset Management LLC, a partner-owned investment advisory firm that manages individual portfolios for clients. Daniel has extensive experience in marketing, development of special U.S.-investment products, as well as customer acquisition and relationship management. His ultimate goal is to make a difference in his clients’ financial lives through honest investment advice. He strives to provide high-touch, personalized service and enjoys getting to know a client’s personality as it relates to their financial circumstances before crafting the right solutions. As money is a very personal subject, Daniel takes his responsibility as an advisor very seriously, forming long-term relationships with clients based on trust.
Daniel received his degree in finance and international business from New York University. Outside of the office, he is a hobby landscape, street photographer, and has a great interest in U.S. and European history (16th-19th centuries), believing it helps him answer the question “Why is something the way it is?”
About Petra
Petra Peters is a founding partner and the Chief Executive Officer of Terra Nova Asset Management LLC, a partner-owned investment advisory firm that manages individual portfolios for clients. Petra has decades of experience in the banking industry, asset management, overseeing the administration of individual accounts, and designing and advising specialized funds tailored to the requirements of international private and institutional clients. With extensive knowledge of both Europe and the U.S., she’s able to provide advice and services beyond the typical investment advisor. Petra desires for her clients to live a financially care-free life so they can pursue their passions, and she values their trust and gratitude. Creating invaluable friendships formed over years of partnership, some clients even consider her part of their family.
Petra’s interests outside of work include classical music, history, travel, charities, motorcycling, and golf. She is also on the board of a German charity.