Estimate annual defined-benefit pension based on your plan's formula.
Annual pension benefit
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Monthly
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Lump-sum equivalent (PV)
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Your breakdown
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Value
Worked example
Most defined-benefit pensions use a simple formula: final or average salary multiplied by years of
service multiplied by an accrual rate per year. Take a $80,000 salary, 30 years of service, and a 2%
multiplier. The annual benefit is $80,000 times 30 times 0.02, which is $48,000 a year, or $4,000 a
month, for life. To judge a lump-sum buyout offer against that income stream, the tool computes the
present value of receiving $48,000 a year for an assumed 25 year retirement, discounted at 5% a year.
That present value is about $676,509. The reading is practical: if your plan offers a lump sum well below
roughly $676,509, the monthly pension is likely the better deal at these assumptions, while an offer far
above it favors taking the cash. The discount rate matters a lot here, because a higher rate makes future
payments worth less today and lowers the break-even lump sum.
How it is calculated
The annual benefit is the product of three plan inputs: your salary, your years of credited service, and
the per-year accrual multiplier your plan uses, often between 1% and 2.5%. Dividing by twelve gives the
monthly figure. To value the stream as a single number, the tool treats it as an annuity and computes the
present value of receiving that annual amount for your assumed number of retirement years at your chosen
discount rate. A higher discount rate or a shorter life expectancy produces a smaller present value,
because money arriving far in the future is worth less today and there are fewer payments. This is a
planning estimate, not plan-specific advice. Real pensions vary in how they define final salary, whether
benefits adjust for inflation, what survivor options apply, and how early retirement reduces the payout,
so always confirm the exact terms with your plan administrator before deciding between a pension and a
lump sum.
Frequently asked questions
Common pension formula?
Most plans: Final Average Salary × Years of Service × Multiplier (typically 1.5-2.5%). E.g., $80K × 30 years × 2% = $48K/year pension.
Should I take a pension lump sum or monthly payments?
This depends on your health, other income sources, and investment confidence. Monthly payments hedge against longevity risk: if you live past your break-even age (typically 80-85), the annuity pays more than the lump sum invested at a reasonable rate. The lump sum gives you control, flexibility, and potential estate value. Key questions: Does your spouse need survivor benefit coverage? Do you have other guaranteed income (Social Security, rental income)? Can you manage a large sum without spending it? A fee-only financial planner can model the crossover point for your specific situation.
What is the pension formula?
Most defined-benefit pensions use a formula: (years of service) x (benefit multiplier) x (final or average salary). A typical multiplier is 1.5-2.5% per year of service. An employee with 25 years of service, a 2% multiplier, and a $80,000 final salary would receive $40,000 per year ($80,000 x 25 x 0.02). Some plans use the average of the highest 3-5 salary years rather than final salary, which lowers the base for people who received a late-career pay spike.
Are pension payments taxed?
Yes, if the contributions were made pre-tax, which is true for most government and corporate defined-benefit pensions. The full monthly payment is taxed as ordinary income in the year received. There is no capital gains treatment. If you made after-tax contributions to the pension (some plans allow this), a portion of each payment is tax-free under the IRS Simplified Method, which prorates your tax-free basis across your expected payment period. Social Security and pension income together can push retirees into higher brackets than expected.