Working out a cetv.

alfmurph

I know this is wrong because you guys have told me it is wrong .
But why is it wrong .
My wife is retiring at 62 end of this year .
Her DB pension forecast is 12k per annum with 80k lump sum or 16k with no lump sum .
She wants to take the former .
So assuming average life span of a female is 81 years old . She has 19 years to live .
3% pay rise in pension every year would give her an average pension over 19 years of approx 15k .
3% times 19 is 57% on top of 12k giving a mean of around 15k .
So if we multiply 15k by 19 we get 285k and then add on her 80k lump sum giving a total of 365k .
So if her cetv offer was above 365k - would that be a good offer .
BTW - Tiger's roll ain't going to win the grand national .

Dazed_and_confused

So assuming average life span of a female is 81 years old . She has 19 years to live .

Is 81 the average life span of a female who has already successfully made it to 62?

And you can do all the sums you like but only the employer/pension trustees can say what the CETV is.

There are a lot of things to consider when deciding whether to take it or not. Some may jump at £365k (with your wife's DB options). Others wouldn't touch it.

How will your wife feel if she £365k in her SIPP one week and when she looks the following week it is only say £300k?

Marcon

alfmurph wrote: »

I know this is wrong because you guys have told me it is wrong .
But why is it wrong .
My wife is retiring at 62 end of this year .
Her DB pension forecast is 12k per annum with 80k lump sum or 16k with no lump sum .
She wants to take the former .
So assuming average life span of a female is 81 years old . She has 19 years to live .
3% pay rise in pension every year would give her an average pension over 19 years of approx 15k .
3% times 19 is 57% on top of 12k giving a mean of around 15k .
So if we multiply 15k by 19 we get 285k and then add on her 80k lump sum giving a total of 365k .
So if her cetv offer was above 365k - would that be a good offer .
BTW - Tiger's roll ain't going to win the grand national .

Why is what wrong?

Dazed_and_confused

I think there was an earlier thread where the consensus was the CETV was being considered for the wrong reasons.

NB. By the wife not the op!

xylophone

Has your wife actually obtained a CETV?

Linton

alfmurph wrote: »

I know this is wrong because you guys have told me it is wrong .
But why is it wrong .
My wife is retiring at 62 end of this year .
Her DB pension forecast is 12k per annum with 80k lump sum or 16k with no lump sum .
She wants to take the former .
So assuming average life span of a female is 81 years old . She has 19 years to live .
Wrong assumption - it's more like 89 with 27 years to live using the 2014 figures.

3% pay rise in pension every year would give her an average pension over 19 years of approx 15k .
3% times 19 is 57% on top of 12k giving a mean of around 15k .
Bad maths - you forgot it is compound interest:
The true figure is 1.03^19=1.75 - so a 75% rise in 19 years with a mean of 16.6K or a 122% rise in 27 years with a mean of £19.3K

So if we multiply 15k by 19 we get 285k and then add on her 80k lump sum giving a total of 365k .
So if her cetv offer was above 365k - would that be a good offer .
BTW - Tiger's roll ain't going to win the grand national .

There are other things wrong with the approach: For example

1) £1 in 20 years time is worth less than £1 today (which would you rather have?) - you cant simply add them up.
2) There is a 50% chance of the Mrs living longer than average. Do you want to base your calculations on a 50:50 chance?
3) Will inflation average 3%?

hugheskevi

So assuming average life span of a female is 81 years old . She has 19 years to live .

Something around 89 or 90 would be typical and could be as high as about 94 in some scheme assumptions. This may vary by industry, eg, scheme of Finance companies may expect their workers to live longer than schemes linked to transportation companies and there are likely to be regional differences in assumptions.

3% pay rise in pension every year would give her an average pension over 19 years of approx 15k .

Schemes may well have different rules for indexing Guaranteed Minimum Pension and excess over GMP. It is also common for caps to be applied to inflation increases and there may be discretionary increases depending on funding level, so you need to be sure the 3% increase assumption is reasonable taking into account these factors.

So if we multiply 15k by 19 we get 285k and then add on her 80k lump sum giving a total of 365k .

At this point you have generated a simplistic future set of cashflows, in cash terms. To convert that into the capital value required to fund those cashflows (ie the CETV), it is necessary to discount those future cashflows by the expected (nominal) return on scheme investments.

Scheme investments can vary considerably. For example, a scheme fully invested in index linked gilts will have a very low expected return, whilst schemes with greater equity exposure would have higher expected returns.

So if her cetv offer was above 365k - would that be a good offer .

How are you factoring in the expected value of survivor benefits? There may also be other benefits such as guarantees that apply in the event of death shortly after retirement which lead to lump sum payments, these also need to be taken into account if being modeled robustly.

If the pension scheme is underfunded, it may reduce the CETV by the % underfunded rate. Decisions of this nature would take into account the strength of the employer covenant (ie how much you think you can rely on the employer being willing and able to stand behind the pension scheme liabilities in the future).

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The above things are not a comprehensive description of how CETVs are calculated and the sort of things that actuaries will be considering, but it gives an idea of the sort of considerations that are being made.

What you outline is a very simplistic approach, it is the actuarial expertise around things such as scheme-specific life expectancy, scheme rules and pension legislation that accurately produces a model of future cash-flow forecasts and expected scheme asset return figures which are the foundation of a CETV calculation.

Marcon

alfmurph wrote: »

BTW - Tiger's roll ain't going to win the grand national .

Just shows how hard it is to predict the immediate future, never mind the longer term!

AnotherJoe

Your maths about rises is wrong.
Your supposition about life expectancy is wrong and also could be further adjusted for your wife's specific circumstances (health, diet, history, parents etc)
You don't take account of tax paid in the different scenarios
You don't take account of survivors benefits.
Finally it's getting much more difficult and costly to actually access a CETV.
You aren't good at predicting horse races either !