Imagine you retired from a company with a pension, and now the terms of that steady monthly income you so happily relied on are being reopened.
If that scenario makes you a bit queasy, that's how some 150,000 retirees may be feeling these days.
General Motors announced Friday that it will offer about 42,000 U.S. retirees and surviving beneficiaries (about 36 percent of all its pensioners) lump-sum payments in return for giving up all rights to their monthly pensions. About 76,000 other retirees will get their future benefits not from GM but from another administrator, The Prudential Insurance Company of America.
GM didn't disclose how it would calculate individual buyout offers. But it said that eligible salaried employees will have until July 20 to make decisions on the offers. The program will save GM $26 billion in pension obligations, the company estimates.
Pension experts say they wouldn't be surprised if other companies that offer traditional "defined benefit" pensions may follow suit. Many employers are looking for ways to get rid of their pension obligations by shifting risk to the retirees.
Ford also didn't provide details on the payout amounts or the calculation formula but did say it would be a one-time offer. The auto giant also said the plan would be rolled out in stages starting July 1 and that it has already begun notifying eligible former employees, according to a report in USA Today.
Taking a lump sum may seem appealing but there are serious risks. First, the responsibility for investing wisely and making sure your money lasts through your retirement years rests squarely on your shoulders. And given current market conditions, determining how to do that may be a daunting task.
"The big danger is that you are now responsible for market volatility," says Tim Courtney, chief investment officer at Exencial Wealth Advisors in Oklahoma City. Before, if there were market losses, "Ford's pension fund was ultimately responsible for adding additional dollars to that plan to make sure it didn't run out of money" to give pensioners what they were promised.
"That market risk now becomes ours," he said.
On the other hand, if your pension stops flowing because of some future crisis at the company paying it (whether it's your old employer or a financial company that took over the obligation), you'd already have the lump sum and wouldn't have to worry about your payouts. The Pension Benefit Guaranty Corp. does guarantee pensions up to a certain amount in such situations but chances are that you'd be getting far less than what you'd been promised.
The lump sum offer may also seem like a gift if you wanted to start your own business. But if that venture went bust, your retirement would be dismal without other savings and assets.
Sandy Mackenzie, a senior adviser at AARP's Public Policy Institute, calls that lump sum swap potentially "troubling." Dumping a pension can mean giving up a rate of return of up to 10 percent, not to mention the month-to-month certainty. He says retirees must closely analyze the terms of their employer's lump sum offer to determine if it's a good deal.
"Suppose they were getting $1,500 a month, and they're asked to give that up for a lump sum of $100,000," which they'd make in about six years, he says. "That in no way would be a good deal...Giving up all rights to an employer's pension makes me wonder."