How rising interest rates could impact your pension

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If you’re nearing retirement and plan to elect lifetime payments from your pension plan, rising interest rates won’t have any impact on your benefits. But if you’re considering a lump-sum payment, rising interest rates can be critical.

Life expectancy and interest rates
Pension plans calculate your lump sum by determining the present value of your future pension payments. The two primary components in this calculation are your life expectancy, and interest rates. Life expectancy is determined using IRS tables. These tables are unisex (meaning the same life expectancy factors apply to both men and women). This results in women getting lump sums that are slightly smaller than they would otherwise get based on true gender-based factors, and men getting slightly larger lump sums.

Until recently, the interest rate plans used to calculate lump-sum payments was the U.S. 30-year Treasury bond rate. However, employers can now use a higher corporate bond rate. What’s important to understand is that the amount of your lump-sum payment is inversely proportional to interest rates—that is, the higher the rate, the smaller your lump sum.

Is a lump sum right for you?
If your plan offers lump-sum payments, there are two questions you need to ask yourself. First, “is the lump sum right for me?” This is a difficult question, and the answer depends on a number of factors: is the pension your primary source of retirement income? How is your (and your spouse’s) health? Will you be giving up valuable subsidized benefits built into the plan’s benefit payments, or cost-of-living increases? A lump sum gives you control over your retirement dollars and removes the risk of early death, but shifts the guaranteed income for your (and if you’re married, your spouse’s) life. Will you be able to make your lump sum last for a retirement that may last 30 years or more?

If you decide a lump sum is the right choice, the second question is, “When should I take the money?” Interest rates remain near historic lows, and it’s only a matter of time before they start heading back up. If you’re approaching retirement and believe interest rates will rise in the near future, you may want to consider taking the lump sum sooner rather than later. Your plan can provide you with an estimate of your lump sum based on various interest rates.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2016.

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