Get access to the exclusive HR Resources you need to succeed in 2018.
Sign up for free email newsletters and get more SHRM content delivered to your inbox.
Is your employee handbook keeping up with the changing world of work? With SHRM's Employee Handbook Builder get peace of mind that your handbook is up-to-date.
Build competencies, establish credibility and advance your career—while earning PDCs—at SHRM Seminars in 14 cities across the U.S. this fall.
Gain the skills you need to rise to the next level in your career. Jon us at SHRM's Leadership Development Forum, October 2-3 in Boston.
Questions about how well pension plan participants understand lump-sum tradeoffs
Members may download one copy of our sample forms and templates for your personal use within your organization. Please note that all such forms and policies should be reviewed by your legal counsel for compliance with applicable law, and should be modified to suit your organization’s culture, industry, and practices. Neither members nor non-members may reproduce such samples in any other way (e.g., to republish in a book or use for a commercial purpose) without SHRM’s permission. To request permission for specific items, click on the “reuse permissions” button on the page where you find the item.
Since 2012, a number of large defined benefit pension plan sponsors have given selected participants a limited-time option of receiving their retirement benefits in the form of a lump sum. Although sponsors' decisions to make certain lump sum “window” offers is permissible by law, “questions have been raised about participants' understanding of the financial tradeoffs associated with their choice,” states a 2015 report from the Government Accountability Office (GAO),
Private Pensions: Participants Need Better Information When Offered Lump Sums That Replace Their Lifetime Benefits.
Pension plan participants face potential reductions in their retirement assets when they accept a lump sum offer in place of a guarantee of lifetime payouts, the GAO noted. “The amount of the lump sum payment may be less than what it would cost in the retail market to replace the plan's benefit through an annuity because the mortality and interest rates used by retail market insurers are different from the rates used by pension plan sponsors, particularly when calculating lump sums for younger participants and women,” the report advised.
Participants who assume management of their lump sum payment “gain control of their assets but also face potential investment challenges,” the report stated. “In addition, some participants may not continue to save their lump sum payment for retirement but instead may spend some or all of it.” In contrast, sponsors of defined benefit pensions are responsible for managing the financial risks associated with their plans.
The GAO reviewed 11 information packets provided by sponsors offering lump sums to as many as 248,000 participants and found that the packets “consistently lacked key information needed to make an informed decision or were otherwise unclear.” Specifically, the GAO identified eight key types of information that participants need in order to have a sound understanding of a lump sum offer.
Eight Questions that Participants Need Answered to Make an Informed Choice
Question Addressing Key Factors
Examples of Subquestions
1. What benefit options are available?
• What is the monthly benefit amount at normal retirement age (the “do nothing now” or “deferred annuity” option)?
• Is there a subsidized early retirement option?
• What is the monthly benefit amount if payments begin now under the plan (the “immediate annuity” option)?
• What is the lump sum amount (the “lump sum” option)?
2. How was the lump sum calculated?
• What interest rates were used?
• What mortality assumptions were used?
• Was the value of any additional plan benefits included in the lump sum?
3. What is the relative value of the lump sum versus the monthly annuity?
• How does the lump sum payment compare to the value of the plan’s lifetime annuity?
• Would it be possible to replicate the plan’s stream of payments by purchasing a retail annuity using the lump sum?
4. What are the potential positive and negative ramifications of accepting the lump sum?
• How could taking the lump sum affect beneficiaries?
• How could inflation affect the lump sum and the plan’s monthly benefits?
• What are the investment risks?
• What are the longevity risks?
• How could spending some of the lump sum affect its value over time?
5. What are the tax implications of accepting a lump sum?
• How would the lump sum payment be taxed?
• What rollover options are available and what are the tax implications for each?
• Are there early distribution penalties?
6. What is the role of the Pension Benefit Guaranty Corp. (PBGC) and what level of protection does the PBGC provide on each benefit option?
• What is the PBGC?
• How much of the plan’s monthly benefit would be protected by the PBGC if the plan is terminated with insufficient assets to pay benefits?
7. What are the instructions for either accepting or rejecting the lump sum?
• What needs to be done to make either election?
• What is the deadline for the decision?
• Does a spouse need to grant consent for either election?
8. Who can be contacted for more information or assistance?
• What is the contact method for questions?
• Is federal assistance available?
Source: Government Accountability Office
All of the packets the GAO reviewed lacked at least some key information. For example:
• The relative value notices were often unclear about how the value of the lump sum compared to the value of the lifetime monthly benefit provided by the plan.
• Many packets did not clearly indicate the interest rate or mortality assumptions used, limiting participants' ability to assess how the lump sum payment was calculated.
• Few of the packets informed participants about the benefit protections they would keep by staying in their employer's plan—full or partial protections provided by the Pension Benefit Guaranty Corp., the agency that insures defined benefit pensions when a sponsor defaults.
This omission is notable because many participants the GAO interviewed cited fear of sponsor default as an important factor in choosing the lump sum.
If the GAO were to get what it wants, plans sponsors would face more regulations and oversight regarding lump sum offers.
The GAO recommended that the Department of Labor (DOL) improve oversight by requiring plan sponsors to notify the agency when they implement lump sum windows, and asked the DOL to coordinate with the Treasury department to clarify guidance on the information sponsors provide to participants.
The GAO also asked the Treasury department to reassess regulations governing relative value statements provided to plan participants, as well as the interest rates and mortality tables used in calculating lump sums.
Stephen Miller, CEBS, is an online editor/manager for SHRM. Follow him on Twitter
Related External Article:Is 2015 the Year of the Lump-Sum Sweeps?, Retirement Town Hall, February 2015 Related SHRM Articles:
Employers Weigh Lump-Sum Pension Cashouts,
SHRM Online Benefits, May 2014
More Pensions to Offer Lump-Sum Payout Windows,
SHRM Online Benefits, February 2013
A Lump-Sum Window Can Help 'De-Risk' a Pension Plan,
SHRM Online Benefits, May 212
You have successfully saved this page as a bookmark.
Please confirm that you want to proceed with deleting bookmark.
You have successfully removed bookmark.
Please log in as a SHRM member before saving bookmarks.
Please sign in as a SHRM member before saving bookmarks.
Please purchase a SHRM membership before saving bookmarks.
An error has occurred
Recommended for you
SHRM Annual Conference & Exposition
SHRM’s HR Vendor Directory contains over 10,000 companies