Defining Benefits

December 14th, 2010

In the 1980s I was helping a friend who had just been terminated by a major private sector employer at age 50. Despite recent events he was pretty positive, and told me that the pension plan would allow him to retire at age 55 with an unreduced pension. Unfortunately, I had to tell him that his understanding was based on the rules that applied to active employees. As a terminated member, he had no such rights, and would, in fact, incur a major pension reduction if he chose to start his pension at 55, rather than the normal retirement age of 65. I have never forgotten the look on his face. It made me realize that; central to any pension decision must be a clear understanding of exactly what the choices mean. Pension plans are complex, and it is easy to be confused.

Fast forward to 2004, when I was helping a client decide which pension option was more attractive for him, out of a choice between a lump sum settlement and a lifetime pension. To illustrate the potential outcomes of the two choices available to him I had built a financial model which could project out both scenarios. At the time, it seemed reasonable to me that the scenario which gave the greater net worth at the end of his life was the “better” option for him. At the time I was creating this model, I must have had some spare time, because I started to play with the model and to analyze the impact of changing certain of the underlying facts. I was surprised to find that by varying, for example, the amounts of registered and non-registered investments he had, independent of the pension decision, I could actually change the most favourable outcome. This lead me to what I felt was a great discovery – pension decisions in context.

Since then I have continued to refine my approach to helping clients who have pension decisions to make, but always with the belief that a clear understanding was a fundamental requirement and that context was critical. There is no universal right answer to a choice between two pension options. Over time this has developed into the three step process that I use today:

  1. Make sure you fully understand the choices available to you and the implications of those choices
  2. Compare yourself to the “average” plan member and see how this might influence your decision
  3. Consider the overall context in which the decision is being made.

I wrote an article for the November edition of the CA Magazine which expands on the notion of the three steps which you can read in full here.

Patrick Longhurst