Corporations that need to cut costs may look at restructuring or reducing payroll expenses by offering some employees an early retirement package or voluntary separation. Senior management or tenured employees who are higher earners are often the ones targeted for such opportunities.
The decision over whether to accept a severance package isn’t just financial; it’s personal.
Emotions can run high and cloud a person’s judgment. When clients come to you for advice on whether to take their employer up on such an offer, be sure they’re prepared to answer the following questions.
Do you have a plan to generate enough long-term income?
It’s possible that your client may want to find other employment. While job opportunities abound, they might not be able to bring in the same salary and benefits they did previously. As such, they might need to adjust their income projections or make some lifestyle changes.
If a client is seriously considering early retirement, their age is a major factor that can help determine whether they should take a buyout from an employer. For those in their early to mid-60s, an attractive severance pay as a part of an early retirement offer may be enough to bridge the gap before Social Security kicks in. Claiming Social Security before full retirement age, however, could result in as much as a 30% reduction in lifetime benefits.1
No matter the age, it’s critical to weigh the costs based on their investment horizon. A retirement package may seem generous at the time, but could result in giving up a sizable amount of income when calculated over the long term.
How will you pay for health insurance?
Despite many legislative efforts to reduce the costs of health insurance premiums, they can be expensive and may account for a significant portion of someone’s budget if required to pay the full amount out-of-pocket. Before making a decision to take a company buyout, your client should research available plan options to see how much they’ll need to pay for adequate coverage. They may be shocked at the figure.
A company may offer health care coverage for a set duration after retiring, such as 18 months, which might be able to be negotiated. But the further someone is away from age 65 (the age at which they can enroll in Medicare)2, the more difficult it may be to find affordable coverage over time.
How much will you miss out on employer-matched 401(k) contributions?
There’s more than salary to consider when exiting the workforce. Many employers offer retirement benefits and match employee contributions up to a certain percentage. Not only will your client miss out on those matching dollars, but they’ll also miss out on any gains those added funds might accrue in time.
After age 59½, your client may begin taking money out of their 401(k) without early withdrawal penalties, but they need to consider how much that account could have potentially still earned had they (and their employer) continued to contribute rather than withdraw for the next few years.3
Some 401(k) plans allow participants to borrow up to 50% from their vested account balance, up to $50,000. If allowed, such a provision may not be in your client’s best interests, especially since it must be contributed back within five years.3 There are many rules and criteria that must be met, so ensure that your client fully understands any implications.
Will there be repercussions for not accepting the offer?
If your client’s company is trying to reduce its labor force due to financial difficulties, turning down a generous offer now could backfire if it leads to an eventual dismissal or company closure. There’s no way to know whether such an outcome will occur, but it bears consideration.
Your client’s employer may not know where the company stands financially or how a downturn in the economy or potential recession could impact their bottom line. Encourage your client to consider their options carefully and, as best as they can, get a sense for the company’s solvency in the future. If an employer is encouraging voluntary retirement in the midst of financial hardships, it may just be the writing on the wall.
Times of uncertainty call for additional measures to stay in touch with clients. Some may not consider checking with their financial advisor to help evaluate a severance package or other opportunity that could significantly impact their retirement. Maintaining consistent communication may help keep you top of mind and prompt clients to start a conversation when faced with such major life decisions.
We’ve developed numerous resources to help you connect with clients on a deeper level and bring greater value. Behavioral Finance Advice (BFA), an entire library of ElevateTM Advanced Planning materials, infographics, whitepapers and more await you in our extensive collection of advisor resources. Be sure to check them out and contact our wholesaler team with questions.
Written by: Marshall Heitzman, CFP®, ChFC, FLMI, CPCU, BFA™
Marshall is TruStage's Advanced Planning Expert and has more than 25 years of experience in the insurance and financial services industry. He consults Financial Professionals on advanced retirement planning concepts for retirement and wealth management clients.