What you're choosing between
A monthly pension is a paycheck for life. The plan carries the investment risk and the risk that you live a long time. A lump sum hands both of those risks to you, along with full control of the money.
Neither choice is better for everyone. The right one depends on your health, other income, spending needs, any spouse who relies on you and how you'd handle a large pile of money. Treat the choice as permanent unless your plan says otherwise.
Step 1: Put both options at today's prices
You can't compare $700,000 now with $54,400 a year for life by eye. Present value turns the future payments into one number at your start date, using a discount rate. That rate stands for what you think you could earn on the lump sum.
Take a $54,400 pension that rises 2% a year. Counting 20 years of payments, it's worth $875,385.78 at a 4% discount rate. A $700,000 offer is about 80% of that.
Formula notes
Present value = sum of each year's pension / (1 + discount rate)^year
Step 2: Test the discount rate and the time span
Both choices move the answer a lot. At 6%, the same 20 years are worth $729,877.43, and the offer reaches about 96% of the pension's value. At 3%, they're worth $964,332.23 and the offer looks much weaker.
Time matters just as much. Extend the projection from 20 to 25 years at 4% and the payments are worth $1,046,060.66. If you expect a long retirement, the monthly pension tends to win.
- 3% discount, 20 years: $964,332.23
- 4% discount, 20 years: $875,385.78
- 6% discount, 20 years: $729,877.43
- 4% discount, 25 years: $1,046,060.66
Step 3: Find the break-even age
The break-even point is when the pension payments you'd have received add up to the lump sum. In the example, nominal payments pass $700,000 in year 12, around age 76. Once you count the time value of money at 4%, it takes until year 16, around age 80.
If you'd likely live well past that age, the pension pays more in total. If health or family history points the other way, the lump sum may be worth more.
Step 4: Weigh what the math leaves out
- Survivor income. A joint and survivor pension can keep paying a spouse. A lump sum only helps them if money is left.
- Inflation. A pension with no COLA loses buying power. At 2% inflation, $54,400 is worth about $37,342 at today's prices after 20 years.
- Investment discipline. A lump sum must be invested and drawn down carefully for decades.
- Plan safety. PBGC insures many private pensions up to legal limits, so check how your plan is covered.
- Taxes. Rolling a lump sum into an IRA is treated differently from taking cash. Check IRS Publication 575 or a tax professional first.
Making the call
Get the official lump sum notice and the monthly options from your plan, with their dates. Then run your numbers through our pension calculator with a few discount rates and projection lengths. If the lump sum only looks good at a high discount rate or a short lifespan, the monthly payment is the safer default. For a choice this big and permanent, an independent fee-only adviser is worth the cost.
Frequently asked questions
Can I take part of my pension as a lump sum?
Only if your plan offers that form. Payment options vary from plan to plan, so ask your administrator for the full list with dated amounts.
What discount rate should I use to compare a pension lump sum?
Use a return you could realistically earn on the lump sum at low risk, then test higher and lower rates. A higher rate makes the lump sum look better.
Can I change my mind after choosing?
Whether an election can be changed depends on your plan and the law. Read the election rules and deadline before you sign, and treat the choice as permanent unless the plan says otherwise.
What happens to my pension if my employer goes bankrupt?
For many private plans in the U.S., PBGC steps in and pays benefits up to legal limits. Public pensions follow different rules, so check with your plan.
References
These sources support the method or guidance used for Pension Calculator. Verify time-sensitive rules at the source.
Try the calculator
Open Pension Calculator, enter your scenario, and compare its supporting rows with this guide's method and checks.