Retirement Lump Sums Being Depleted Quickly

More than one out of five workers who accepted a lump sum from their employer-sponsored retirement plan have depleted it, a survey found.

The study, titled “Paycheck or Pot of Gold,” was conducted by Harris Poll last summer on behalf of MetLife.

Of the individuals who opted for the lump sum, 62 percent had money left over from the withdrawal, 21 percent had depleted their lump sum and 17 percent didn’t know or couldn’t recall, the study found.

Those who reported depleting their lump sum said it took them an average of five and a half years to burn through the money.

Those who withdrew money from their defined contribution plans and were not also receiving separate income from a defined benefit pension, reported depleting their lump sum money within four years.

“If someone runs out of money in five to six years, they either had very little money to start with or did not have an advisor or a had very bad one,” said financial planner Jon L. Ten Haagen in Huntington, N.Y., said in an email.

Not all recipients who deplete their lump sums mean they have run out of money as some recipients may receive income from other sources.

Still, dipping into their lump sum to pay down debt, fund home improvements, buy a car or a second home were among the major spending regrets of people taking the lump sum, the survey found.

The study shows that it doesn't matter whether people rely on a defined benefit or a defined contribution retirement savings plan. When people look at a lump sum they see it as a pot of gold, said Roberta Rafaloff, vice president, Institutional Income Annuities at MetLife.

“Those who took lump sum depleted relatively fast compared to life expectancy,” said Rafaloff.

Behavioral economists call it the “lottery effect,” which is when people suddenly come into a sum perceived as being large, but don’t covert it into the drip-drip-drip of lifetime income or a retirement paycheck, typically in the form of an annuity.

The average amount for those who took a lump sum from their defined benefit plan was about $192,357, while the average defined contribution plan balance at retirement was approximately $239,792.

The Annuity Selection-Income Illustration Connection

Taking a lump sum is tempting but there are significant drawbacks, Rafaloff said.

One of the drawbacks is that lump sums don’t come with any income illustrations, which are more likely with annuity selections.

Defined contribution plan participants who selected an annuity were more likely (55 percent vs. 28 percent) to receive illustrations about how much income their plan would provide compared with people who selected a lump sum, the survey found.

The survey found that 39 percent of defined contribution plan participants who chose an annuity say they received a projection estimating how many years the money in their plan would last. Only 30 percent of those who chose a lump sum received such a projection.

Critics of the defined contribution system say retirement plans need to focus less on asset accumulation illustrations and more on lifetime income illustrations, or how much an employee’s savings today will yield in future income.

“The whole focus of defined contribution has been saving and saving, but it’s important to understand what they are saving for,” Rafaloff said. “Plans need to shift focus.”

In Congress, the Lifetime Income Disclosure Act introduced with bipartisan support this month would amend the Employee Retirement Income Security Act of 1974 to require lifetime income disclosure.

The bill has earned the backing of the American Council of Life Insurers and the National Association of Insurance and Financial Advisors.

“What are you accumulating for? Income in retirement,” Rafaloff said. “We're starting to see a lot of interest from plan sponsors to doing that.”

Dearth of Risk-Reward Information

To actuaries and retirement experts, the findings don’t come as a big surprise as separate research has shown that lump sums disappear relatively rapidly.

The MetLife study’s findings may help explain why. This is why Rafaloff says retirement savings plans need to be reframed.

Only 39 percent of defined contribution plan participants recall receiving a written or paper statement illustrating how much income their defined contribution plan would provide in retirement, the survey found.

Only 31 percent of defined benefit plan participants who were given a choice between a lump sum or an annuity received information about the risk of outliving their money, the survey found.

Only 12 percent of defined benefit plan participants said they received information about the risk of spending a large sum more quickly than expected, the survey found.

Turning To Advisors For Help

Whether employees accept a lump sum or an annuity from their employer-sponsored plan, at least they are talking to someone about it.

Nearly eight in 10 (79 percent) of defined benefit and defined contribution plan participants consulted a financial planner, advisor or broker when deciding between a lump sum and annuity payments, a new survey has found.

Nearly half – 46 percent – of all defined benefit and defined contribution plan participants who took a lump sum consulted with a planner, advisor or broker, compared with 35 percent of those who took an annuity, the MetLife survey found.

The survey found that 25 percent who settled on an annuity spoke with their employer about the option, but only 10 percent of people who accepted a lump sum spoke with their employer about it.

The average age of the defined benefit plan participants was 65 and, of those who retired, the average age at which they retired was 58.

The average age of the defined contribution plan participants was 67, and the average age in which they retired was 61.

If employees are talking to someone about their distribution options, it may be that they are not asking enough questions or not asking the right questions.

InsuranceNewsNet Senior Writer Cyril Tuohy has covered the financial services industry for more than 15 years. Cyril may be reached at [email protected].
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