Pension Plans and Your Financial Independence

What are pension plans?

Pension plans are funds to which an employee and/or employer contributes. The expectation is that the value of this fund grows over time. The employee then receives periodic payments to support their lifestyle in retirement.

In the U.S., prior to the 1980s, a company or government Defined Benefit Plan (DBP), commonly referred to as a pension, was potentially all a person needed for retirement. Times have changed. DBPs are now found in a few private sector industries and government work at the federal, state, and local level. Outside the U.S., various forms of DBPs are still common, but they too are coming under fiscal pressure to varying degrees.

What impacts do pension plans have on Financial Independence?

If you work a job with access to a DBP, the steady stream of income it offers in “retirement” can potentially shave hundreds of thousands to millions of dollars from the nest egg total needed to successfully employ a Safe Withdrawal Rate (SWR). Calculating this “savings” is known as calculating one’s “Gap Number.”

Not all pension plans are created equal.

Utilizing a pension to help achieve FI does not come without cost or risk; especially since not all pensions are created equal. While some pensions start immediately upon “retirement”; others start at a certain age, or time frame, in the future. Some pensions provide healthcare; others don’t. Many private and some public sector DBPs face serious questions about their financial safety or solvency.

As a result, reliance on a DBP for part of an FI plan requires serious consideration. Fortunately, these types of calculations can be made, and several FI bloggers pave the way on methods for valuing a pension in order to achieve FI.

In addition to characteristics of the pension themselves, other factors can impact your pension. For example, different states treat income from pensions differently. Therefore it is imporant to consider a number of factors when deciding how and when to incorporate a pension.

Is your pension worth it?

For a thorough explanation on how pensions work, how they can be calculated, the decision of taking a lump sum or pension, and much more, check out The Golden Albatross: How To Determine If Your Pension Is Worth It. This book, published in July of 2020 explores not only the specifics of plans that may be available to you, but the psychological aspect of gutting it out at a job you may not enjoy just to earn the pension benefit.

Fiology thanks Grumpus Maximus, the pension expert of the FI community, for shaping this lesson.

Read:

• The Pension Series  by Grumpus Maximus of grumpusmaximus.com
• How to Model the Retirement Income Gap  by Darrow Kirkpatrick of caniretireyet.com
• Valuing a Pension Actuary Style  by Actuary on Fire of actuaryonfire.com

Listen:

• 057 | The Golden Albatross | Grumpus Maximus  by Grumpus Maximus of choosefi.com
• 058R | Dark Side Of Value  by Brad Barrett and Jonathan Mendonsa of choosefi.com

Take Action:

1. If you’re eligible for a pension, take the time to understand the specifics. What is it worth to you? Consider whether or not it should be part of your FI plan.

Additional Resources:

• Boston College’s Center for Retirement Research  numerous articles and searchable database on U.S. public and private sector pensions.
• The Ultimate Guide to Safe Withdrawal Rates – Part 4: Social Security and Pensions  by  Big Ern of earlyretirementnow.com
• The Ultimate Guide to Safe Withdrawal Rates – Part 17: More on Social Security and Pensions (and why we should call the 4% Rule the “4% Rule of Thumb”)  by Big Ern of earlyretirementnow.com
• 095 | A Military Path to FI  by Airman Mildollar  of choosefi.com

Quote:

This is a battle cry for the common people

The forgotten nowhere kids stuck in the middle

We’re singing this song for all of the common people

Who’ve given up so much and gotten back so little

Street Dogs – “Common People” Lyrics