Pensions are often confusing for people. Unlike traditional retirement savings options – like a 401(k) or 403(b) – you don’t contribute regularly to the account. Instead, it’s known as a “defined benefit plan.” This means that your employer contributes to your pension for you, and you’re entitled to benefits during retirement.
For this reason, pensions can be fantastic retirement savings tools to leverage as part of your retirement income. Whether you choose to take a lump sum payment when you retire, or you want to use your pension as consistent monthly income for you (and for your spouse) for the rest of your life, the different options you have for your pension allow you to do just that.
However, many people aren’t sure how they’re supposed to manage their pension. It seems like there’s some kind of “to do” list associated with your pension – but it may not feel as cut-and-dry as your 401(k), where you’re able to manage your asset allocation and contributions.
While You’re Employed
While you’re employed, you don’t have to do anything to manage your pension except show up to work.
That’s right – you don’t have to manage contributions, asset allocation, or anything else pertaining to your pension. Your employer manages your pension – or, more specifically, the plan provider manages the company pension (including your specific benefit).
Pensions are a fantastic way for your employer to incentivize sticking around. Due to your specific vesting schedule, you may not be able to receive benefits unless you’ve worked there for a specific number of years. So, the only thing you can truly to do “manage” your pension while you’re employed is to stay with your current employer at least through the end of their vesting period!
If You Leave Your Job
If you leave your job before you retire, you’ll need to take a look at whether or not your pension has vested. Pension vesting typically works in two different ways:
- Cliff vesting. Usually, if you leave your job in five years or less (or before a previously specified period of time – every pension is different), you won’t receive any benefits. However, if you stay for the full period of time, you’ll still receive 100% of the benefits the company promised you when you retire.
- Graded vesting. This type of vesting schedule is more common. It offers you pension benefit vesting on a graded scale. For example: if you stay three years, you may be entitled to 20% of your pension benefits after retirement. If you stay four years, that doubles to 40%. If you stay past seven years, you become 100% vested in the plan. Every pension is different, so these percentages may not be exactly what your pension vesting schedule looks like.
If you’re vested in your pension (even if you’re only partially vested) when you leave your job, you need to reach out to the company who manages your pension when you retire. Then, you’ll apply for your benefit through them to receive your pension payout during retirement. Remember: your pension isn’t portable (if your pension is a private pension). So, if you are wanting to invest the funds from your vested pension elsewhere, you can’t “roll them over” into your new company’s pension. You’ll need to either leave them with your current plan provider and access them during retirement, or request to cash out and invest the funds yourself in a different savings vehicle. This isn’t the case, however, with a public sector pension – which can transfer between reciprocal systems.
When You Retire
When you retire, you have a few options for accessing your pension. These are:
- Lump sum
- 50% joint and survivor
- 100% joint and survivor
- Life with 10 years certain
Deciding which option to elect for your pension benefits is the only time you’ll truly have to “manage” your pension. There’s no one right answer here, it’s all about choosing the benefit election that will best serve you and your spouse or partner during retirement.
For example, a single-life option will provide you with the maximum monthly benefit for the rest of your life. However, if you believe your spouse or partner may outlive you, and you don’t have additional retirement income streams like savings or a spouse’s pension, looking at a 50% or 100% joint and survivor option may be in your best interest. These options offer a reduced monthly benefit while you’re alive, but continue the same reduced benefit after you pass away for your spouse.
Speaking with a financial planner about creating a retirement income, and how your pension election options fit into that income strategy, is a good idea if you’re unsure which option to pick.
Pensions can be an incredibly valuable retirement planning tool. However, they’re only one small portion of your retirement income strategy. Putting together a comprehensive strategy that leverages Social Security, your pension, and savings can be time consuming and often confusing. This is where working with a trusted financial planner can be really helpful. If you have questions about building your retirement income plan – contact me today.