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Pension Income Planning

Learn what your Pension income options areYou may have yet to approach retirement age, but this is something that you may want to consider no matter how young you are because an employee nearing retirement may face a dilemma when it comes to choosing his or her pension.

Pension Options from a defined benefit retirement plan generally include a lifetime payment with no survivor benefit, a joint and 50% survivor payment, or a joint and 100% survivor payment.

As stated above, the employee has the ability to select a few different options. With that being said, the joint and survivor benefits are reduced amounts from the lifetime payment option.

There are downsides to each of these options:

1. By choosing the lifetime payment option and then dying before the surviving spouse, no monthly pension will be left for the spouse.

2. If the employee selects one of the survivor options, and the spouse dies before the employee dies, the employee will be locked into the lower payout for the rest of his or her life.

The problem with the survivor options is that the amount of potential loss of income can be devastating to the retired employee or spouse. Emotionally, an employee may be inclined to choose one of the pension options that give an ongoing benefit to his or her surviving Spouse.

This may not be the best financial decision.

For example, Henry, age 65, will be retiring soon. He and his wife, Louise, also age 65, are reviewing his pension options.

Monthly Survivor’s Option Pension Monthly Pension
Life…………………………………….$ 2,000……………………. $ 0
50% survivor benefit………..$ 1,600……………………. $ 800
100% survivor benefit………$ 1,200……………………. $ 1,200

If Henry chooses the life option and subsequently dies, Louise will be left without any portion of his pension. With the 50% survivor benefit, Henry would have $400 less per month than the life option, and Louise would receive a pension of half of Henry’s if Henry were to die. With the 100% survivor benefit, Henry would receive $1,200 per month and if he were to die, Louise would receive $1,200 per month.

One good mode of practice is to obtain life insurance and maximize the Pension payout.

Consider this scenario. Henry takes the Life payout and purchases a Life Insurance policy at $200 a month with a death benefit of $300,000. As a result of this strategy, Henry receives his Pension payout of $2,000 a month, minus the $200 a month for the Life Insurance policy. Henry nets $1,800 a month income, more than he would have received if he had chosen the 50% survivor benefit. Now, let’s say that Henry dies the next week. If Henry had chosen the 50% survivor benefit, Louise would have received $800 a month, but because he chose the life payout option, Louise receives $0 from the pension. Enter the Life Insurance policy of $300,000: Over 30 years, Louise would have received $288,000 from the pension plan, but instead, she receives $300,000 immediately, or chooses a lifetime payout from the insurance policy.

The final result:  More monthly income for the household and full protection for the spouse.  

Guard your family with life insurance

The best part? Payout from a life insurance policy is income-tax free to the beneficiary, whereas the Pension would have been fully taxable!

If the spouse were to die before the retired employee, the retired employee would have several options.

1. First, the lifetime payout would continue on for the retired employee (at the full amount as no survivor benefits were chosen).
2. The life insurance could be continued for other beneficiaries, such as children or grandchildren, thus creating a family estate (this is known as legacy planning), or the policy could be modified to provide a reduced paid-up insurance amount.
3. The policy could be terminated completely and if the policy was a cash value policy the accumulated cash value could be returned to the retired employee.

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