People retiring with pension benefits frequently encounter what is known as the “pension dilemma.” They are forced to decide whether to take their entire pension benefit, which means zero income to their surviving spouses or less than the maximum benefit, so their spouses will continue to receive benefits after they die.
One way to get around this is to choose a joint and survivor option, which pays benefits as long as either spouse is alive. This option is automatically offered to married retirees, and the law requires that you both agree in writing before you can elect anything else. The drawback to this option is that benefit payments will always be less than those under the single-life option, even if the beneficiary spouse predeceases the participating spouse.
You have another alternative that is often referred to as pension maximization. You start by purchasing a sufficient amount of permanent life insurance on yourself before you retire and name your spouse as the beneficiary. The income tax-free death benefit is designated to replace the lost pension benefit if you die first. Of course, for this to work, you need to be insurable to qualify for the insurance.
When you retire, you and your spouse opt for the single-life benefit option. This gives you the maximum pension benefit for as long as you live. Use the difference in the amount between single life and joint and survivor benefits to fund the life insurance premiums. Often, you’ll even have money left over after paying the life insurance premiums.
You can determine if this alternative suits you by meeting with your pension plan administrator and discovering your projected benefits under the single life and survivorship options. Then, ask an insurance agent to show you how much life insurance you will need to replace your pension income and what it will cost.
The life insurance premium should be less than or equal to the difference between the single and joint and monthly survivor benefits. It would be best to choose a permanent policy, such as a whole life or universal life policy, which offers a fixed premium for the rest of your life. Otherwise, if your premiums increase as you age, you may not be able to afford the insurance when you need it the most.
Another critical point to determine before you choose pension maximization is whether or not your pension plan requires you to select the joint and survivor option for you to receive post-retirement medical benefits.
Finally, remember that rates are based primarily on age if you purchase life insurance under the pension maximization option. The younger you are when you make this decision, the lower your premium costs.