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ALWAYS CONSULT YOUR INVESTMENT PROFESSIONAL BEFORE MAKING ANY INVESTMENT DECISION

May 12, 2016 | Illiterates

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

For the past 28 years Gerrie’s been a dedicated employee at one of our world-class universities. Now he’s 64, soon to be put out to pasture. “My son says I should contact you,” he says, because no self-respecting academic would admit to reading a blog that talks about hormones, thirsty underwear, moist Millennials and canonizes dogs.

“I want to pension this year and not sure if I should leave my pension at the University and collect for the rest of my live or take the money and invest?”

Since I wrote about the thorny issue of staying on a pension teat or taking the lump sum commuted value (if you’re lucky enough to be offered) a few days ago, a lot of people like Gerrie have been brimming my email. Seems this is a big topic as it goes to the heart of confidence vs. weenieness. People with a sunny view of the next few decades seem totally okay walking off with a big chunk of money to control, invest and grow. Those who fear the future do just the opposite, staying within the comforting bosom of the Big Plan.

Here’s the deal he’s being offered: $3,151 a month for life (the pension croaks when he does), or a commuted value of $720,233, of which all but $73,000 is rolled into a tax-free LIRA (basically an RRSP). So, he can collect $39,000 a year plus his CPP and OAS (about $57,000 anually, all taxable), or take the cash and see what happens.

If you came here last week to waste time you’ll remember the reasons I proffered for commuting the pension. There are a few. Like always being in control of your own pension funds instead of surrendering that decision to a pension administrator you cannot control and will never meet. Laws may change in the decades ahead, plans could become underfunded or pension benefits reduced arbitrarily.

More profound, commuting a pension means the asset doesn’t die with you. The commuted value, or what remains after you depart, becomes the property of your estate and your heirs. Many a spouse has been thankful for that. People who commute pensions have the ability to take income in a less-taxed fashion (thanks to TFSAs and return-of-capital payments, for example), and investment returns are often higher than those more conservative administrators achieve.

However since markets fluctuate, there’s risk, too. But it’s not what you think. The risk isn’t that there’ll be a re-run of the 1930s and you’ll end up eating bugs under a bridge, but that you’ll over-react to temporary volatility and make stupid decisions, like pulling out money during a correction. That’s what zapped investors in 2008-9, since all asset values came roaring back and there was no need to sell.

Yup, it’s not Mr. Market that will kill ya. It’s human nature. As far as commuting a pension goes, the financial no-brainer decision is to do it, as the advantages massively outweigh the passive alternative. Unless you’re a doomer.

Well, how about Gerrie?

If you run a retirement calculator on his situation, the results are stark. Taking the monthly pension for the next 20 years, until be falls over at age 84, the dude would collect a grand total of $756,240, all of it taxable at about a 20% rate. Upon death the pension would cease, with no residual for his estate. If he took the commuted pension and invested it, securing a long-term average return of 6% (over the last 20 years the S&P gave 8%), and took exactly the same payment and paid identical taxes, at the end of 20 years he would have more than $350,000 left in his LIRA. Additionally, if he took the $73,000 cash portion, stuck it in a TFSA and just left it to grow, at 84 it would be worth $244,000.

So, stay in the pension plan and have nothing to pass on. Or commute the pension, get an identical income and leave about $600,000 to your young mistress and surviving dogs. How’s that even a debate?

Sadly, it is. A big one. You can thank financial illiteracy for that – the fact most people get their money and investing knowledge from Mom or the media. Thus we build a perception that markets are unstable and dangerous, financial assets are unsecure and everyone’s out to fleece you. We exaggerate and misinterpret risk, come to believe there’s a Berne Madoff lurking everywhere or weirdly believe the economy could collapse (when it never has in your lifetime).

As I said, we’re our own worst enemies. Those favoured people among us with defined benefit pensions who are offered the chance to commute them, and don’t, are evidence of why this blog must not die. But if it does, Bandit gets a bundle.

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May 12th, 2016

Posted In: The Greater Fool

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