In today’s corporate environment, cost-cutting, restructuring, and downsizing are the norm, and many employers are offering their employees early retirement packages.
But how do you know if the seemingly attractive offer you’ve received is a good one? By evaluating it carefully to make sure that the offer fits your needs.
WHAT’S THE SEVERANCE PACKAGE?
Most early retirement offers include a severance package that is based on your annual salary and years of service at the company. For example, your employer might offer you a month’s salary for each year of service. Make sure that the severance package will be enough for you to make the transition to the next phase of your life. Also, make sure that you understand the payout options available to you. You may be able to take a lump-sum severance payment and then invest the money to provide income or use it to meet large expenses. Or, you may be able to take deferred payments over several years to spread out your income tax bill on the money.
HOW DOES ALL OF THIS AFFECT YOUR PENSION?
If your employer has a traditional pension plan, the retirement benefits you receive from the plan are based on your age, years of service, and annual salary. You typically must work a certain number of years to receive the maximum benefits. This means that you may receive smaller benefits if you accept an offer to retire early. However, your employer may provide you with larger pension benefits until you can start collecting Social Security at age 62.
Or, your employer might boost your pension benefits by adding years to your age, length of service, or both. These types of pension sweeteners are key features to look for in your employer’s offer — especially if a reduced pension won’t give you enough income.
DOES THE OFFER INCLUDE HEALTH INSURANCE?
Does your employer’s early retirement offer include medical coverage for you and your family? If not, look at your other health insurance options, such as COBRA, a private policy, dependent coverage through your spouse’s employer-sponsored plan, or an individual health insurance policy through either a state-based or federal health insurance Exchange Marketplace. Because your health-care costs will probably increase as you age, an offer with no medical coverage may not be worth taking if these other options are unavailable or too expensive. Even if the offer does include medical coverage, make sure that you understand and evaluate the coverage. Will you be covered for life, or at least until you’re eligible for Medicare? Is the coverage adequate and affordable (some employers may cut benefits or raise premiums for early retirees)? If your employer’s coverage doesn’t meet your health insurance needs, you may be able to fill the gaps with other insurance.
Make sure that the severance package will be enough for you to make the transition to the next phase of your life. Also, make sure that you understand the payout options available to you.
WHAT OTHER BENEFITS ARE AVAILABLE?
Some early retirement offers include employer-sponsored life insurance. This can help you meet your life insurance needs, and the coverage probably won’t cost you much (if anything). However, continued employer coverage is usually limited (e.g., one year’s coverage equal to your annual salary) or may not be offered at all.
This may not be a problem if you already have enough life insurance elsewhere, or if you’re financially secure and don’t need life insurance. Otherwise, weigh your needs against the cost of buying an individual policy. You may also be able to convert some of your old employer coverage to an individual policy, though your premium will be higher than when you were employed.
In addition, a good early retirement offer may include other perks. Your employer may provide you and other early retirees with financial planning assistance. This can come in handy if you feel overwhelmed by all of the financial issues that early retirement brings. Your employer may also offer job placement assistance to help you find other employment.
If you have company stock options, your employer may give you more time to exercise them. Other benefits, such as educational assistance, may also be available. Check with your employer to find out exactly what its offer includes.
CAN YOU AFFORD TO RETIRE EARLY?
To decide if you should accept an early retirement offer, you can’t just look at the offer itself. You have to consider your total financial picture. Can you afford to retire early? Even if you can, will you still be able to reach all of your retirement goals? These are tough questions that a financial professional should help you sort out, but you can take some basic steps yourself.
Identify your sources of retirement income and the yearly amount you can expect from each source. Then, estimate your annual retirement expenses (don’t forget taxes and inflation) and make sure your income will be more than enough to meet them. You may find that you can accept your employer’s offer and probably still have the retirement lifestyle you want. But remember, these are only estimates. Build in a comfortable cushion in case your expenses increase, your income drops, or you live longer than expected.
If you don’t think you can afford early retirement, it may be better not to accept your employer’s offer. The longer you stay in the workforce, the shorter your retirement will be and the less money you’ll need to fund it. Working longer may also allow you to build larger savings in your IRAs, retirement plans, and investments. However, if you really want to retire early, making some smart choices may help you overcome the obstacles. Try to lower or eliminate some of your retirement expenses. Consider a more aggressive approach to investing. Take a part-time job for extra income. Finally, think about electing early Social Security benefits at age 62, but remember that your monthly benefit will be smaller if you do this.
WHAT IF YOU CAN’T AFFORD TO RETIRE? FINDING A NEW JOB
You may find yourself having to accept an early retirement offer, even though you can’t afford to retire. One way to make up for the difference between what you receive from your early retirement package and your old paycheck is to find a new job, but that doesn’t mean that you have to abandon your former line of work for a new career.
You can start by finding out if your former employer would hire you as a consultant. Or, you may find that you would like to turn what was once just a hobby into a second career. Then there is always the possibility of finding full-time or part-time employment with a new company.
NOTE: Many early retirement offers contain non-competition agreements or offer monetary inducements on the condition that you agree not to work for a competitor. However, you’ll generally be able to work for a new employer and still receive your pension and other retirement plan benefits.
If you don’t think you can afford early retirement, it may be better not to accept your employer’s offer. The longer you stay in the workforce, the shorter your retirement will be and the less money you’ll need to fund it.
WHAT WILL HAPPEN IF YOU SAY NO?
If you refuse early retirement, you may continue to thrive with your employer. You could earn promotions and salary raises that boost your pension. You could receive a second early retirement offer that’s better than the first one. But, you may not be so lucky. Consider whether your position could be eliminated down the road.
If the consequences of saying no are hard to predict, use your best judgment, and seek professional advice. But don’t take too long. You may have only a short window of time, typically 60 to 90 days, to make your decision.
CHRIS KELLY
CPA, CFP®, M. ACCY
Financial Advisor, Portfolio Manager & Executive Manager
ckelly@bwfa.com