Pension Pitch - a Bad Bet

By Philip J. Beavers, CFP,
WEAC's Member Benefits Specialist

May 1998

Financial Planning Seminars
Achieving Financial Independence

In most cases, you're better off just saying no

Some members are receiving an unexpected pitch from insurance salesmen called “Pension Enhancement,” “Alternative Retirement Option,” or “Funding the Pension Differential.” Basically, the proposal is that a married person can improve his or her post-retirement income by choosing the life-only option and buying an insurance policy to duplicate the benefits of the joint and survivor options under the Wisconsin Retirement System.

The pitch is something as follows:

“How would you like to increase your retirement income without risking your spouse’s benefits if anything happens to you? Not only would you get more income while you are alive, your spouse will have more flexibility because she can control the source of the survivor’s benefit (she can choose a lump-sum benefit or monthly income). And, you may well have something left over to leave to your children upon death. ALL THIS AT NO COST TO YOU!”

Only under rare circumstances would pension enhancement be a net benefit to you or your spouse in normal life expectancy. In analysis, the majority of people would be making a very costly, bad bet. The bottom line is that the odds greatly favor the insurance company unless:

• You are in excellent health.
• You are a non-smoker.
• You have a family history of longevity.
• Your spouse is at least 10 years younger than you are.
• You expect your spouse to die before you do.

The problems with most presentations I have reviewed are:

1. The time value of the costs and benefits are generally not computed.
2. The amount of insurance is understated by not providing for annual increases in the pension benefit or using an unreasonably high discount rate.
3. The potential benefits are not considered after-tax.

I analyzed a proposal to a male member, age 55 (who intended to retire at age 62) with an age 50 spouse. The only scenario which would result in an economic benefit to him was if his spouse died before he did and he lived to age 82. As long as they both lived, or if he died first, the cost exceeded the benefit.

One possible solution to be considered if you are approached on “pension enhancement” is to tell the agent that you want to see a proposal showing the circumstances under which you will have an economic benefit, and those under which you are going to lose.

The proposal will need to indicate the present value of costs and benefits (suggest a 6% discount factor), include an annual 4% increase in pension benefits, and compute the benefits in after-tax terms.

If you can get a proposal as outlined and would like some additional help in analysis, send a copy of the proposal to me and I will try to help you make a decision. Without an unbiased analysis, my recommendation is to “Just Say No.”

Posted May 6, 1998