If you are facing the choice between a large lump sum or monthly payments, you’ll likely want to consider several key factors before making a decision. One concern is when you will receive the money, since getting $115,000 up front will allow you to invest it sooner and earn money from it over a longer period. You’ll also look at your own projected lifespan, the inflation outlook, potential investment returns, other sources of income and your attitude toward risk. Uncertainty is always an issue in a long-range forecast, but there are ways you can minimize the possible impact of random chance.

A financial advisor can help you identify, quantify and analyze the influence of the major elements of a lump sum or annuity decision.

Annuity vs. Lump Sum Basics

You may be able to choose to receive money in a lump sum or annuity if you are retiring with a pension. The annuity option means you’ll get a series of payments, usually monthly, over a period of up to as long as you live. If you select the lump sum, you’ll get a single, large payment of cash.

Lump sums can be attractive because you can invest the money and potentially earn more than you would from annuity payments. You could also use a lump sum to pay off debts or pass it on as an inheritance. On the downside, you might run out of money if your investments don’t turn out as expected.

Annuities offer the security of guaranteed income, which can relieve you of much financial uncertainty. However, if you die within a few years of beginning an annuity, you might have been better off with the lump sum. Many annuities provide no death benefit so your heirs could be left with less than they would get with a lump sum. And, because annuity payments are fixed and often not adjusted to reflect inflation, your living or health costs may rise to the point you can’t cover them.

In order to make the best choice possible, these are the main things to look at:

Amount of the recurring annuity payments
Amount of the lump sum
Life expectancy, or how long you can expect to receive recurring annuity payments
How soon you can receive the lump sum so you can start investing it
Anticipated return on investments
Risk factors, such as potential for inflation to reduce purchasing power of future annuity payments.

Some other elements that may come into play include your own comfort making investment decisions. Since an annuity will be managed for you, that could be preferable if you don’t think you can manage the lump sum effectively. You may prefer a lump sum, on the other hand, if you have sizable existing debts that you could pay off with a large chunk of cash.

A financial advisor can help you weigh your options based on your circumstances and goals. You can use this free tool to match with vetted fiduciary advisors.

Making the Choice: Practical Examples

You can use a lump sum vs. annuity calculator to help you shine some light on this decision. To start, you’ll need some information including:

Current age of you and your spouse
Age when your pension payments start
Life expectancy for you and spouse
Type of pension, such as joint and survivor or single life
Cost-of-living adjustment, if any
Monthly pension benefit amount
Spouse’s survivors benefit amount, if any
Amount of lump sum payout
Age when lump sum is available

For example, if you are a single 60-year-old male, you might expect to live to age 83, which is another 23 years, according to Social Security’s life expectancy calculator. If you were eligible to start receiving $820 monthly payments at age 65, you could expect to get 18 years times 12 payments or 216 payments worth $177,120. That’s assuming no cost-of-living adjustment to reflect inflation. This is the estimated value of the annuity.

If you could receive the lump sum at age 65 and begin investing, according to the calculator, you’d need to receive an average annual return of 5.37% to equal the value of the annuity payments. This is lower than many conservative investment strategies can return, suggesting that in this case the lump sum might be a preferable choice.

Changing any of the key variables, such as life expectancy or return rates, changes the outcome. For instance, if the pension includes 2% annual cost-of-living adjustments, the value of the annuity increases to $210,697. Then the lump sum has to earn 7.25% in an average to equal the value of the annuity. If everything else stays the same but you are able to receive get the lump sum now, at age 60, the required rate of return to equal the value of the annuity falls to 3.24%.

Consider speaking with a financial advisor for further guidance on your own retirement plan and more.

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Bottom Line

In order to choose between a lump sum or an annuity, consider pension type, benefit amount, size of the lump sum, age, life expectancy and anticipated investment returns. Other factors such as inflation, cost-of-living adjustments and your comfort making investment decisions may also figure in. In some cases, such as the presence of a large amount of pre-existing debt, it may make more sense to choose a lump sum even if the annuity could potentially return a larger amount.

Tips

Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
After you retire, you’ll have to start taking mandatory withdrawals from any IRA, 401(k) or similar tax-deferred savings accounts you have. Right now, you can use SmartAsset’s RMD Calculator to estimate the amount of these non-optional withdrawals.
Keep an emergency fund on hand in case you run into unexpected expenses. An emergency fund should be liquid — in an account that isn’t at risk of significant fluctuation like the stock market. The tradeoff is that the value of liquid cash can be eroded by inflation. But a high-interest account allows you to earn compound interest. Compare savings accounts from these banks.
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