Defined benefit plans--a crash course

In a traditional pension plan (also known as a defined benefit plan), your retirement benefit is generally an annuity, payable over your lifetime, beginning at the plan's normal retirement age (typically age 65). Many plans allow you to retire early (for example, age 55 or earlier). However, if you choose early retirement, your pension benefit is actuarially reduced to account for the fact that payments are beginning earlier, and are payable for a longer period of time.

If you're married, the plan generally must pay your benefit as a qualified joint and survivor annuity (QJSA). A QJSA provides a monthly payment for as long as either you or your spouse is alive. The payments under a QJSA are generally smaller than under a single-life annuity because they continue until both you and your spouse have died.

Your spouse's QJSA survivor benefit is typically 50% of the amount you receive during your joint lives. However, depending on the terms of your employer's plan, you may be able to elect a spousal survivor benefit ranging from 50% to 100% of the amount you receive during your joint lives. Generally, the greater the survivor benefit you choose, the smaller the amount you will receive during your joint lives. If your spouse consents in writing, you can decline the QJSA and elect a single-life annuity instead (or another option offered under your plan).

Your plan must provide you with an explanation of your payout options prior to retirement, including an explanation of your right to waive the QJSA, and the relative values of the optional forms of benefit available to you.

Single-life annuity or QJSA?

If you're married, a QJSA provides you with the security of knowing that your spouse will receive a guaranteed monthly income after you die. Why, then, might you choose a single-life annuity instead, knowing that payments will stop at your death? The primary reason is that the single-life annuity pays a larger monthly benefit.

For example, if your spouse is in ill health and unlikely to survive you, the single-life annuity might be the better choice. If you were instead to choose the QJSA and your spouse pre-deceased you, you'd be stuck with the smaller QJSA benefit for the rest of your life. The single-life annuity might also be the better choice if your spouse has enough other retirement income available if he or she outlives you.

Your plan may offer other distribution options as well, such as period certain annuities, "pop-up" annuities that increase your QJSA benefit if your spouse dies before you, and level income options that coordinate your benefits with Social Security.

Maximizing with life insurance

One option to consider when deciding between a single-life annuity and the QJSA is "pension maximization." Under this strategy, you choose the single-life annuity, with its larger benefit, and then use the additional income to purchase life insurance with your spouse as the beneficiary, thereby providing for your spouse's financial future.

Cash balance plans

Cash balance plans are a special form of defined benefit that provide a payout option not usually offered by traditional pension plans--the ability to take a lump-sum distribution (again, with your spouse's consent if you're married).

Unlike annuity payments, a lump-sum distribution from a cash balance plan can be rolled over to an IRA or to another employer's plan that accepts rollovers. This might be an attractive alternative if you don't immediately need the income when you retire.

However, if you choose this option, you'll be giving up guaranteed income for your life (and your spouse's life if you're married). You'll also assume the risk (and the potential reward) of investing the assets yourself.

Putting the pieces together

The best option for you depends on your (and your spouse's) age, health, and other financial resources. Your financial professional can help you sort out the options available to you, and help you put the pieces of this complicated puzzle together.