Which is Better: A Lump-Sum Pension Payout or Monthly Payments?

If you’re among the shrinking number of people who qualify to receive a pension, you’ll need to decide whether to take it as a lump sum or in the form of monthly payments. It’s an important choice that can have a big impact on your life as a retiree. And today’s low interest rates add another layer of complexity to the decision. 

Lump-Sum Payout vs. Monthly Payments: Understanding Your Pension Options

Most companies that provide a defined benefit retirement plan offer employees the choice of taking their pension as a lump sum upfront or receiving monthly payments throughout their lifetime (and potentially a beneficiary’s lifetime).

A lump-sum pension payout represents the present value of your entire pension benefit in today’s dollars, based on your age, life expectancy, earnings history, and years with the company. Employers like this option because it helps them manage costs and minimize risk by reducing their future pension obligations. Some employees favor this approach because it gives them the control to invest the lump sum and the flexibility to manage the tax liability. For instance, rather than pay tax on the lump sum upfront (which can take a big bite), you can roll it into an Individual Retirement Account (IRA) and defer the tax until you start taking withdrawals, which are required once you reach age 72.     

A monthly pension payment (also called an annuity) is calculated based on the same factors but is paid out over your lifetime. Some employers only offer a single life payment, which ends when you die; others also offer a joint-and-survivor option that allows your beneficiary to continue receiving your monthly pension in full or at a reduced rate. Some retirees like the peace of mind that comes from this steady income stream, though there’s no flexibility on taxes since you don’t control how much income you receive each year. And since monthly pensions are typically fixed amounts, you lose any protection against inflation.    

To see how the same person’s pension could vary based on whether they opt for a lump sum vs. a monthly annuity, consider this fictitious example.

This graphic illustrates the inverse relationship between a pension’s value and interest rate levels. As interest rates rise, the value of an annuity falls as future payments are discounted at a higher rates. Conversely, as rates drop, total pension value rises as future payments are discounted at lower rates. The graphic shows the value of a $20,000 annual pension over time in four distinct interest rate environments (1-4%) with the baseline rate of 2% in black.

Making the Best Decision for Your Retirement

As with most financial decisions, there’s no single pension option that’s inherently better than another. Deciding which is best for you involves assessing the knowns and unknowns and merging quantitative and qualitative information to arrive at the optimal choice.

To help you decide which pension option is the best route to ensure you can live the life you plan to in retirement, financial advisors like the experienced professionals at Marshall Financial Group typically ask questions like these.

  • Based on your health, risk factors, and family history, what is your life expectancy? While none of us knows how long we’ll actually live, if your life expectancy is long then you may end up earning more by taking the monthly annuity. If you’re in poor health or you don’t expect to live for decades after you retire, the math favors a lump sum payout.
  • How sizable are your other retirement assets and income, including social security, your spouse’s 401k or pension, and IRAs, stocks and other investments? The more varied your income streams and the larger your portfolio, the more comfortable you may feel taking a lump sum, investing it, and potentially leave more money to your heirs. People with fewer income streams or limited investments tend to be less equipped to absorb market risks and may do better with the certainty of a monthly payment.   
  • Do you plan to work in any capacity after you take your pension? If so, you may be more willing to take the lump sum since you’ll have a regular income stream while you continue working.
  • What is your tolerance for risk? People who are risk-averse tend to prefer the known quantity of a monthly payment. Those who have the fortitude to weather the market’s ups and downs may prefer to take the lump sum, invest it, and possibly leave more to the next generation.
  • What do you expect your expenses to be in retirement? If your housing, insurance, and other basic expenses will be relatively low and you can cover them with other forms of guaranteed income (like social security or a spouse’s pension), you might be willing to take the lump sum since you’re more able to expose those funds to market risk.  
  • What is your lifestyle like? If you enjoy traveling, tend to eat out a lot, or engage in expensive hobbies, you might opt for the monthly annuity so you’re certain how much discretionary money you have available each month.
  • Do you plan your spending or are you more of an impulsive spender? People who are mindful about how they spend their money are often comfortable taking a lump sum because they trust they won’t blow it all on expenditures they can’t afford. For those who spend more impulsively, the monthly payment forces some spending discipline.   
  • How financially stable is your employer? Ask to see your employer’s Annual Funding Notice to assess if they’re well equipped to cover future pension obligations. If you work for a private company that participates in the Pension Benefit Guaranty Corporation (PBGC) and your employer’s pension fund becomes insolvent, PBGC will cover a portion of your monthly annuity—but it won’t pay your lump sum. Public employers don’t participate in this insurance, but since they can raise taxes to cover a budget shortfall, their pension funds don’t tend to be at risk.

How Interest Rates Can Impact Your Pension

A final factor that can influence whether you choose a lump sum payout or a monthly payment is the current interest rate environment. Lump sum pensions are inversely correlated with interest rates: When rates are low, lump sum payouts go up because it takes a higher beginning value to arrive at the same future value of your lifetime monthly payments. As interest rates rise, it takes a lower beginning value to arrive at the same future value of your monthly payments—so your lump sum payout figure goes down.

With interest rates extremely low now, lump sum pension amounts are very high, making them attractive to people on the cusp of retirement. If you have other sources of retirement income, the ability and willingness to stay invested even during volatile markets, and moderate expenses and spending habits, taking advantage of current interest rates and opting for a larger lump sum might work to your advantage.

If you’re nearing retirement and need to decide whether to take a lump sum pension payout or monthly payments, contact Marshall Financial Group. And if you decide to capitalize on today’s low interest rates and take a lump sum, we can manage that investment to help you live the life you’ve envisioned in retirement.


Marshall Financial Group, Inc (“Marshall Financial”) is an SEC-registered investment adviser with its principal place of business in Doylestown, Pennsylvania.   This newsletter is limited to the dissemination of general information pertaining to Marshall Financial Group’s investment advisory services.  Investing involves risk, including risk of loss.  References to market indices are included for informational purposes only as it is not possible to directly invest in an index. The historical performance results of an index do not reflect the deduction of transaction, custodial, and management fees, which would decrease performance results. It should not be assumed that your account performance or the volatility of any securities held in your account will correspond directly to any comparative benchmark index.

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