What to Know Before Rolling Over Your Pension


Increasingly, a smaller and smaller number of Americans remain the beneficiaries of pension plans, as employers are turning away from offering this type of retirement plan. However, if you are one of those Americans who still has a pension plan (or a spouse with a pension plan), it’s important to know a few key aspects of these plans.

What is a pension, and who gets one?

A pension plan is a retirement plan that an employer provides its employees. Unlike a 401(k), the employee does not contribute anything to the pension plan – the money is contributed entirely by the employer for the benefit of the employee (for use in retirement). Pension plans were traditionally offered by most large companies and government organizations, but are becoming rarer and rarer. 

If you do have a pension plan, once you reach a certain retirement age, you will be paid a monthly income for the remainder of your life (or half of your spouse’s life if he or she survives you). Pensions can also be offered to employees in a lump sum instead of the monthly annuity if:

  • The employee chooses the lump sum option; or
  • The pension plan is “frozen” by the employer (meaning the employer has chosen to stop funding the pension plan going forward and has offered employees to choose to take a lump sum at that time).

What to know regarding pension rollovers

If your company’s pension was frozen and you are offered a lump sum, or if you choose to take the lump sum upon retirement, you must decide what to do with the funds that are in the plan. There are many tax implications regarding pension fund rollovers and you should consult a tax or financial advisor if you are faced with this decision. However, there are some basic facts you should first know so you do not make a mistake and incur avoidable taxes. 

Most importantly, if you decide to take the lump-sum distribution and do nothing with it, you will be taxed on that amount, that same year. If you choose the rollover, you will be deferring the taxes until a later date. 

Here are your options if you choose the rollover:

  • Rollover to a 401(k) or Traditional IRA: if you choose to roll over your pension to a Traditional IRA or 401(k), you will not pay any early withdrawal taxes or penalties because you have moved your funds into another tax-advantaged retirement account. You will pay taxes on these funds as you would the 401(k) or Traditional IRA, as applicable, when you withdraw them upon retirement. 
  • Rollover to a Roth IRA: if you choose to roll over your pension to a Roth IRA, you will not pay an early withdrawal penalty; however, the funds will be considered taxable income the year of the rollover. Going forward, any gains and income in that account will be afforded the same tax-free treatment as any Roth IRA.  

This begs the question: how should you roll over the funds?  

On a practical level, the rollover can be done either directly from the IRA to your chosen retirement plan or you can take a lump-sum distribution and, within sixty days, redeposit the money into your chosen retirement plan. There are nuances involved with both and a financial advisor can assist you with the choice and the transaction.

What if you need the cash now?

If you choose to take the lump-sum payment and do not roll it over, you will likely pay taxes on that money at the time of the rollover. While this is an option, it is something to carefully consider because of both the amount of taxes you will be paying on the funds as well as the fact that the pension was meant to be used for your retirement. If you are using it to fund your current lifestyle, keep in mind that you might be putting yourself at risk in the future and leaving yourself with little to no funds for retirement. 

Before taking a lump sum to pay off debt, it would be wise to consider speaking with a debt relief company that could offer other options for paying off your debt. For example, a debt consolidation loan or debt settlement might be viable options for you, allowing you to pay off your debt now without having to sacrifice your retirement funds.