Expert: Allen - 11/21/2007

Question
QUESTION: I am 58. I can start taking my pension out, but by doing so I will loose 6% for each year I retire early witch is 24%. I can still work and I can reapply every year for the extra credit. The way I look at it is that I am only making 6% on my money and I would to put it in something that would pay better and keep working at the same time. Is that possible or will I get ate up on the tax end of it?

ANSWER: You are probably better off waiting if the pension is reduced by 6% for each year you take payment early. You are giving up a lot more than 6%. If the pension was going to be $100 per month if you waited until age 62, it will only be $76 per month if you started at age 58. In effect each payment is reduced by 24%.

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QUESTION: Allen; I am aware of the 24% as I said in the question, but if I invest $1500.00 a month into something that has a better yield then 6% and at the same time not get ate up in taxes I thought I would be better off. If you take 6% of $1500.00 it is only $1080.00 more a year. It just seems to me if I were to investing $18,000.00 a year I should be able to get a higher yield in the four years that I plan to keep it rolling over. Again I’m not saying I’m right I’m just looking at my options.

ANSWER: If I understand the numbers you have a choice of receiving a pension of $23,684 beginning 4 years from now or $18,000 per year starting right now. (My logic is $18,000 is 76% of $23,684.) Let me know if that is correct and I'll play with the numbers to help you with your decision.





---------- FOLLOW-UP ----------

QUESTION: Yes that is correct. The way my pension plan works is; if I keep working I can re apply every year and pick up the new credit which will be about $75.00 a month plus 1 ½ % on my full pension. For argument lets just use that as a buffer and not even consider it.

Answer
I believe the answer to your question depends on how well you can do on your investments and your effective tax rate.

Ignoring taxes, if you receive $1,500 per month for 4 years and earn 8% on your investments you will have approximately $84,000 when you reach age 62. 8% of $84,000 is $6,720. If you add this to the $18,000 that you continue to receive each year you have a total annual payout of $24,720 which is larger than $23,684. In addition you still have the $84,000 principle.


Including taxes gives different results. I'll assume you pay 30% combined federal and state income tax. If you receive $1,500 per month you'll have $1,050 to invest. If you earn 8% before tax or 5.6% after tax, you'll accumulate approximately $56,000 in 4 years. 5.6% of this is $3,136. Adding this to the $18,000 x .7 = $12,600 that you continue to receive gives an annual income of $15,736. If you waited, your annual income would be $23,864 x .7 = $16,704. So it looks like you're after tax income is greater if you wait. However, you have an additional $56,000 in the bank if you start at 58 which more than makes up for the smaller annual income.

So it looks like it's better to start now if you can make a decent return on your investments. However the answer is different if you make a low return.