Old fashion employer-sponsored pensions, technically known as "defined benefit pensions," have been an important source of retirement income for decades.

For retirees, they often make the difference between a comfortable lifestyle and just getting by.

While they are on the decline, there are lots of workers approaching retirement who have accumulated significant benefits in these plans.

Many employers offer two choices for retirees to receive their benefits from these plans. One is a stream of monthly payments that continue for life (an "annuity"). The second is a lump-sum distribution for the "actuarial equivalent" value of the monthly payments, the idea being the retiree would roll the money over into an IRA, invest it, and generate systematic cash flows throughout retirement. A 2007 Vanguard study found that given a choice, almost three-quarters of participants opted for the lump sum over the annuity.

The decision is an important one and almost always irrevocable, so it's critical to take the time to do a thorough analysis and understand the impact it can have on you and your family. There is no universally correct choice. Rather, the best option depends on your own personal and financial situation, including your income needs and the amount of other financial assets you have available.

Ultimately, this decision usually revolves around financial calculations to determine the projected "internal rate of return" (IRR) of each option. In simple terms, the higher the IRR, the more "profitable" the option.


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Those calculations are beyond the scope of this article, but here are four key considerations that require no computations, that you should factor into your decision:

Your goals for the money. Do you want to protect yourself against running out of money during retirement regardless of how long you live? For most people, their primary goal is to avoid outliving their money and becoming dependent upon their family. If so, the annuity will likely be the better choice. The durability of a lump sum is subject to the performance of the financial markets, a retiree's lifespan and his or her ability to manage spending.

Investment skill and temperament. Managing a large lump sum can be difficult, especially when markets experience steep and prolonged declines as they periodically do. Do you have the knowledge to build and manage a sensible portfolio aligned with your spending needs and your ability to handle investment losses? Do you have a strong enough stomach and deep enough pockets to wait for the financial markets to recover while still having sufficient funds to pay your bills? If not, you run the risk of depleting your assets prematurely. On the other hand, a pension annuity continues uninterrupted (assuming the employer plan remains solvent) during good times and bad.

Life expectancy vs. lifespan. Your lump sum is based on average life expectancy. The longer you live, the more checks you will receive. If you expect to live beyond life expectancy, you'll be ahead with the annuity. If due to family history or illness, you are assuming a shorter lifespan, the lump sum may be more attractive.

Your confidence the monthly checks will continue as promised. Is your employer on stable financial footing? Are there any back-up guarantees for your pension checks? For example, does the Pension Benefit Guarantee Corporation (a U.S. government agency) ensure that you will continue to receive payments if your employer plan becomes insolvent? The more confident you are about the payment stream, the better the annuity option becomes.

The future is unpredictable. How long you live, and the performance of the financial markets are basically out of your control. The best way to increase the chances of making the right decision for you and your family is to take your time, do your homework and reach out for help if necessary.

John Spoto is the founder of Sentry Financial Planning in Andover and Danvers. For more information, call 978-475-2533 or visit www.sentryfinancialplanning.com

This article is for general information purposes only and is not intended to provide specific advice on individual financial, tax, or legal matters. Please consult the appropriate professional concerning your specific situation before making any decisions.