If you’re fortunate enough to have the luxury of choosing between a lump sum or monthly pension, consider yourself lucky. These days, pensions of this nature are becoming increasingly rare, and for those who have them, they can represent the difference between financial freedom and financial struggle.
In the case of one Redditor, the decision between a lump sum versus a monthly payment is far more than just a heads or tails coin toss. Posting in r/Fire, this decision needs to happen when they turn 67, and at that point, they have to decide whether or not the lump sum is the way to go.
It might go without saying that many people suggest taking the lump sum and never looking back, but like all things in life, decisions are never that straightforward.
The Situation
In the case of this Redditor, they originally posted one year ago, again in r/Fire, when they first discussed having a pension available to them. At the time, the numbers were a little different, and at 37 years old (one year ago), they knew they didn’t have the full credits to walk away early, which would take another four years to earn.
However, as this is r/Fire, this individual wants to leave this job as soon as possible, take whatever pension numbers are available, and FIRE using other assets, with the pension providing a slight boost. What we know now, one year later and in their updated post, is that if they walk away from their job now, when they turn 67, their pension will earn them $1,500 per month for life.
On the other hand, if they take the money today as a lump sum, it’s around $50,000, which would count alongside any other income they are currently earning this year. The caveat here, and why they posted in r/Fire, is that you have to remember the $50,000 can be invested, and compounded interest could make this a desirable number in 30 years.
This Redditor is expecting 7% returns, so they believe their $50,000 today will be worth just under $400,000 in 30 years, which makes the lump sum the most attractive option.
What’s The Best Move?
While some Redditors in the comments suggest a more conservative estimate of 5% over 30 years for a total of $216,000, there is a little more math this Redditor isn’t considering.
At the $216,000 valuation that quickly jumped in popularity in the comments, you have to consider that at 67, the Redditor would start taking a 4% safe withdrawal rate from this to boost their monthly income. The challenge is that the $720 inflation-adjusted monthly number out of the lump sum is lower than the $1,500 monthly payment option.
The caveat is that it all depends on whether the Redditor needs the 4% SWR, can take less, or doesn’t need to make any withdrawals as other assets are enough to live on.
The other side of this coin is that waiting 30 years for a $1,500 monthly payout is silly. What if the company goes bankrupt? While we hope this isn’t the case, you probably want to hedge your bets and take whatever money you need to start investing. A 30-year horizon is hard to see, making the “now” a far more attractive financial choice.
Pensions Are Great, If They Last
In a pure form, pensions are a great way to supplement income or be a primary source of income. The most challenging part of any pension decision is whether or not a pension fund will remain solvent in an unknown number of years, especially if it’s a government pension.
Separately, what if the company has to raid the pension fund as this too could make things tricky down the road.
There are too many X factors for this Redditor to rely on a 30-year waiting period comfortably. I look at it like this: Some money now is better than no money down the road, and as we don’t have a way of seeing the future, compounding interest on the $50,000 today is the absolute best choice.
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