The Pension Lump Sum vs Annuity Calculator settles the classic retirement fork with present-value math: is a guaranteed monthly pension for life worth more than the lump sum offered instead? Enter the lump sum, the monthly annuity, the return you expect if you invested the lump, how long payments should be modeled (by years or by planning to a target age), and an optional cost-of-living adjustment, and it compares the two in today's money.
How It Works
The annuity is valued by discounting each year's payments at your expected return, growing the payment by the COLA rate each year if you set one. The lump sum is worth exactly its face value today. The calculator also solves for the break-even return: the investment return at which the two options are worth the same, which converts the decision into a single question: can you reliably earn more than that rate, after tax and fees, for the rest of your life?
Parameters
| Input | Required | Meaning | |---|---|---| | Lump sum amount | Yes | The one-time offer | | Monthly annuity | Yes | The lifetime monthly payment offered | | Expected return | No | Annual return assumed on invested funds (default 6%) | | Years to live / plan-to age | No | Horizon; or current age plus target age | | COLA rate | No | Annual increase in the pension payment (default 0) |
Worked example
Offer: 3,000 a month for life. Planning over 25 years at a 5% expected return with no COLA, the annuity's present value is about 900,000. The break-even return is about 5.15%: at 7% the same annuity is worth only about 626,873 (annuity wins clearly). Add a 2% COLA and the 5% present value jumps to about $618,629, which is why whether the pension is inflation-indexed often matters more than the headline monthly figure.
What present value leaves out
The annuity carries longevity insurance no portfolio replicates: it pays for as long as you live, including to 100, whereas the calculator's fixed horizon stops at the age you enter. Run the plan-to-age at 95 or 100, not at life expectancy, because the financial risk is outliving the money, not dying with some left. Conversely, the lump carries flexibility and bequest value the annuity (depending on survivor options, which reduce the monthly amount) may not. Taxes differ too: a lump rolled into an IRA defers tax, while payments are taxed as received, and annuity income can be steadier for budgeting and for means-tested thresholds. Health is a legitimate input: a shortened horizon tilts toward the lump, robust family longevity toward the annuity.
The decision pattern professionals use
Compare the break-even return with a realistic, after-fee portfolio return for the risk you would actually take (not the stock market's best decades), stress the horizon long, check the COLA and survivor terms, and consider the hybrid: many plans allow partial lump sums, and splitting diversifies the longevity-versus-flexibility trade. Also verify the pension plan's funding health and the guarantee scheme behind it in your country, because an annuity is a decades-long unsecured promise.
Limitations
The model discounts annual payment totals year by year, uses the horizon you set rather than mortality probabilities, and ignores taxes, fees, survivor benefits, inflation beyond the COLA you enter, and plan-default risk. It labels the larger present value as better on the assumptions given; the surrounding risks in the sections above are part of the real decision and are not in the arithmetic.
Frequently Asked Questions
What break-even return should make me take the lump?
If the break-even rate is below what a conservative balanced portfolio can plausibly return after fees over your horizon, the lump has the mathematical edge; above it, the annuity is buying you a return you cannot reliably manufacture. Compare against realistic, not optimistic, returns.
Why does COLA change the answer so much?
Because a fixed payment loses purchasing power every year while an indexed one compounds upward. At 2% COLA the payment in year 25 is about 61% larger than in year 1, and discounting cannot erase that growth at moderate return assumptions.
Should I model to life expectancy?
No. Model to an advanced age (95 or 100). Planning to life expectancy means accepting a roughly even chance of outliving the plan, which is precisely the outcome the annuity insures against.