Are secondary market pensions really pensions
Break out of retirement prison with a secondary market pension
What is a retirement prison and how does a secondary market pension get you out? Let's start at the very beginning. An immediate annuity gives you a stable income for a set number of years. Some even pay you for as long as you live. Generally though, the deal is that once you put your money back in exchange for the guaranteed payments, you won't be able to get your money back.
Then there is the tax-deferred pension. This is where you put money away in hopes of having it available to fund your retirement or some other distant future need. Unfortunately, getting rid of it completely early or removing a lot of money can result in high redemption fees.
The central theses
- A secondary market pension can convert the pension you no longer need into a lump sum cash payment.
- Annuities in a qualifying retirement plan and annuities for life cannot be sold in the secondary market.
- When buying a secondary market pension, be aware of the tax implications of receiving a lump sum cash payment.
Secondary market pensions
So how can you get your money? Annuity owners can use the secondary market to create liquidity from an asset that is typically anything but. In this article, we're going to walk you through three different scenarios where a secondary market annuity can come in handy.
Scenario 1: The income is no longer needed
Betty accepted an early retirement offer from her employer. She used part of her severance package to buy a 10 year guaranteed instant payout annuity. The annuity's monthly checks would cover their fixed costs such as mortgage, property tax, and health insurance. After a decade, payments would cease. Until then, however, Betty could receive social security and retirement income, which would make up for the loss.
Like clockwork, the pension company deposited a check into Betty's bank account every month. But after a year, Betty got bored with retirement. She found a job that paid twice as much as her previous employer. Now she no longer needed the pension income. Worse still, since part of that payout was taxable, she pushed her into a higher tax bracket - a problem she didn't have before taking on the new job.
Things looked grim until a friend told her about companies buying annuities from people like her. She called the company and a representative explained how companies buy bonds in the secondary market, then repackage them into securities and sell them to institutional investors. The price they would offer Betty for her pension would depend on four factors.
- The total amount still to be paid out
- The time over which this payout occurs
- The currently applicable interest rate
- The financial strength of the pension company
With the help of the expert, Betty received three offers for her pension. She accepted one and received a check within four weeks. Betty then invested the money in a tax efficient index mutual fund. Your account has the potential to track the underlying index. She has also reduced her tax burden and can now use the fund to supplement her income.
Scenario 2: changing long-term plans
Harry bought a deferred tax pension three years ago with a profit made on a property sale. He thought he didn't have to touch retirement for at least 15 years if he wanted to retire.
Harry's son owns a high tech business and could spend extra money on a new product he wants to introduce. Since Harry is convinced that he could make a bundle through an investment, he wants to get out of his pension and invest the proceeds in his son's company. He asked the pension company how much they would give him for his retirement, but found that after paying the redemption fees, he would have less than he invested.
Then Harry's insurance agent told him about the secondary market for annuities. Harry had 15% more than the pension company offered. Thanks to the secondary market, Harry was able to change the long-term plan he originally had for his money and invest in his son's business.
Scenario 3: Inherited pensions
Pam's father recently passed away leaving her with the remaining 11 years of payments from a 15-year instant pension. Pam didn't need any extra income, but what she badly needed was a lump sum to pay her son's tuition fees, which were due in two months.
The pension company wasn't interested in buying the pension. After a secondary market company granted a discount based on the prevailing interest rates, it offered Pam a lump sum for the remaining 11 annual payments. This gave Pam the money she otherwise would not have had to pay to pay her son's tuition fees.
Before resorting to a secondary market pension, check with your pension company to see if they have a payout policy, as this may be a better option.
Warning: not all pensions are qualified
Just because you own an annuity doesn't mean you can always convert it to cash. Annuities included on a fiscally qualified retirement plan are ineligible, as are direct life expectancy annuities, as payments are based solely on your life expectancy and are therefore not guaranteed
Before you sell your annuity on the secondary market, do the following four steps:
- Contact the company that sold you the pension. As the industry continues to add more options, you may find that your pension has a payout feature that you have never even known about.
- Contact your financial advisor or insurance agent. They should be able to explain your options and help you get the best deal in the secondary market.
- Think about how much cash you will need. You may only have to sell part of your pension. Then you could let the balance grow deferred for tax purposes or even delay the payments.
- Find out how much income tax you owe if you sell your pension. Don't wait until you have the check in hand. By then, it will be too late and you could send a large part of what you just received to Uncle Sam.
The bottom line
Things are changing and you may no longer need the annuity guaranteed income that you so carefully established for yourself. All is not lost, however. Entering the secondary bond market is a method by which you can sell your annuity (at least) with a not-too-small loss and meet your current need or desire for cash.
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