I need your help with a big financial decision (urgent)

[CasualApathy]

Hi everyone, thank you for looking at my thread. Let me apologise in advance for any mistakes i might make in translating from danish to english.

I need your help because my father who is 60 years old and still working as a doctor recieved a letter last week from the people who administer his pension asking him if he would like to leave his current plan and join a new plan that should supposedly be better suited to maintain the value of his pension in case of inflation. There are several aspects of the new and old plans that make it difficult for us to make this decision, and to make tings worse the deadline for joining the new plan is oktober 1st, if you decide to join the new plan you then have a right to change your mind untill november 1st. I would deeply appreciate if anyone can give some insight into what would be the best choice and I am now going to attempt to describe the plans as best I can with the information that has been sent to us.

Old plan (the one my dad is currently a part of)

Pays: 313.640 DKK a year (1 dollar = 5,17 DKK)
If my dad dies it pays: 188.184 DKK a year to my mom.

They write:
"If you joined the pension-fund before july 1st 1999 (my dad joined 1977), the oldest part of your pension is guarenteed (old plan). In the guarenteed part of your pension the amount that is payed out can not be reduced. Increases in your pension as a result of bonus or a rise in yearly payments since 2000 has been payed into a pensionplan with a limited guarentee and this part of your pension is as such subject to being reduced.

New plan

Pays: 218.877 a year
if my dad dies it pays: 131.326 a year to my mom.

they write:
"The amount that is payed out can be changed if the members of the pension-fund are found to live longer then what they are expecting with their current calculations"


This is what they write in the literature they sent:

New plan - advantages:

1) Increased flexibility in investments (makes it possible for the pension fund to invest in stocks, bonds and properties)

2) The possibility of a higher return on your pension then the return that is already reportet by the pension

3) better protection against inflation

Disadvantages:

1) Base rate is lowered to 2% a year

2) Pensions can be lowered if interest rates are permanently being significantly lower than 2%

3) Increased lifespan among members can mean a reduction in your pension

Old plan - advantages:

1) a base rate of between 3 and 4% a year.

2) The pension can not be lowered not even if the members are found to live longer then expected.

Disadvantages:

1) no prospect that the return on your pension may be higher than the 3-4% annually, which is provided and already recognized in your pension.

2) Careful investmentstrategy is nessecary - including a large portion of long-term bonds and insurances against falling interest rates

3) no security if inflation rises.


I guess i will leave it at that for now, I am not sure if i got all the nessecary information out for you to help, otherwise ask and i will shuffle through my pile of papers and information.

What should we do?

Thanks.

 

[Zippyjuan]

It sounds like the company is trying to get employees off a "defined benefit plan" (a traditional pension plan where you get paid a guaranteed amount every month- they may or may not have an inflation adjustment clause) to one where the payments depend on the returns on the investments within the plan. Usually the companies like this becasue it saves them a lot of money in costs for retired employees.

The difference in payouts seems huge- the old one pays one third more than the new one would? Do you feel that the "benefits" of the new plan would make up for that difference? Neither guarantees being able to keep up with inflation. The "possiblity" of higher returns is also no guarantee of higher returns. Plus the second one may even go down in payments while the first will not.

Only my opinion (you must make up your own mind) but given the large difference in payouts, I would take the larger one.

 

[tmosley]

Yeah, going for the "new plan" looks like a sucker's bet. I wouldn't do it.

 

[Cleaner44]

Yeah, going for the "new plan" looks like a sucker's bet. I wouldn't do it.

This. They are offering the new plan to benefit who? I don't think it is to benefit your dad.

 

[rrcamp]

Can you elaborate on the new plan's advantage during an inflationary period? Denmark is the worst off of the EU countries when it comes to outstanding loans to GDP and the loans to deposits ratio. Check out this article for more details.

Since you guys aren't on the Euro, your central bank has as much power to inflate as ours does.

Given these two facts, I'd at least elaborate what inflation protections the new plan offers compared to the old.

 

[CasualApathy]

Thank you all for your quick replys!

As I read it the argument for getting the new plan is that compared to the old plan which has a very conservative investment-strategy the new plan will be able to invest much more broadly and also take on higher risk investments. By doing this they argue that they will be better able to protect my dads investment against the high inflation that they are expecting in the near future. While the old plan offers a fixed nominal amount every year the buying-power of the money might decrease significantly. According to the information they sent us the old plan has no way to compensate for inflation at all.
I find it so terribly hard to decide what is best because as you say, there is a BIG difference in the payout of the two plans. This is what they write about the added protection against inflation in the new plan:

"The new system is preferable in case of interest rate and inflation increases, since the new system will be better able to incorporate protection against the possibility of higher inflation because the institution can better invest in index-linked bonds, property and other real assets, and can better invest in shorter bonds rather than very long bonds. In this way assets are protected against rising interest rates - and the consequent decline in bonds - which are often a result of rising inflation. Our institution expects that the level of inflation - and presumably also interest rates - will eventually rise.

Therefore, there will be a better opportunity to give bonuses in the new system, and so the pension in the new system is expected to rise. If interest and inflation levels are increased, there will be a high probability that seen over several years we will be able to pay a interest rate bonus which helps to ensure that the pension retains its purchasing power.

Even after you begin to receive a retirement pension, your pension can be secured by higher returns. It gives you a good opportunity to achieve and maintain the purchasing power of your pension. You must here take into account that the expected payout period is long as shown in the table of expected lifetimes above.

(The tabel gives these figures for men:
60 years old = expected lifespan of 23,8 years
65 = 19,4
70 = 15,2
75 = 11,5)

It is therefore important to ensure your retirement spending power as much as possible - even after you have retired. That is why the institution believes that it is also appropriate for older members to consider choosing the new system."

 

[CasualApathy]

It should be said that the institution is a creature of the danish "doctors union" and as such doesn't have a conflict of interest as it is owned by its members who are all doctors.

 

[CasualApathy]

bump for help

 

[LibForestPaul]

Can he choose not to contribute...? At least here, that defined pension plan would go bankrupt and then be paid out at pennies on the dollar.

2) Pensions can be lowered if interest rates are permanently being significantly lower than 2%
Interesting...???

 

[DrCap]

Without looking at details it's kind of hard to see what would be best, but it sounds like he has a defined/guaranteed benefit and can give that up for a higher risk bet in which he might get a better return but the guarantee isn't nearly as good.
Given his age it seems it would be more sensible to stick with his current plan, and then just hedge himself somehow against inflation/currency devaluation. Why would a man who's 60 years old, nearing retirement be trying to take on more risky investments?
just my 2 cents and I'm not a financial advisor but I am a doctor, and like most doctors, I think I tend to be risk averse.

 

[CasualApathy]

Thank you all again for your good advise, and sorry for not posting for a while after we hit the deadline.

Let me bring a little update on the situation. My dad actually decided to join the new plan because a quick decision had to be made and because he has untill the end of the month to change his mind so the decision wasn't final. Since that time we have spoken to the people who administer the pension fund and found out that amongst the older doctors only one in ten has decided to join the new plan so right now we are leaning heavily towards staying on the old plan as well.

The big question is still what would be best considering that my dad isn't planning to retire for at least the next seven years and maybe ten. With that in mind the risk is that the old plan will have lost all its purchasing power due to inflation before my dad actually gets his first check. Apparently there is no option to get your money out before you retire.

Another question is with regards to DrCap's suggestion about my dad staying on the old plan and hedging himself against inflation in other ways. Currently my dad owns 3 properties, my parents house, an apartment in copenhagen where i live and our summerhouse. With the falling prices in mind does this present a risk or a benifit with regards to maintaining his fortune? He has about 3 million DKK in loans in the bank associated with the properties and if we were to sell everything they would bring in about 5 million in the current market. Also, besides buying gold and silver how would one go about hedging oneself against inflation considering there isn't really much "cash on hand" at the moment?

Thanks!

 

[CasualApathy]

bump for advise/insight

 

[Zippyjuan]

As I am reading the information you provided, neither plan can guarantee to keep up with inflation. The old plan starts with paying more. The new plan starts lower and could possibly even be reduced in the future while the old plan will not be reduced. The payouts on the new fund could go up or down from one year to the next (if I am reading properly) which could make personal budgeting harder.

Higher risk means just that. They may earn more but they could also earn less. If the economy is poor, the returns will be poor and the payouts lower. If the economy is good, the payout may be higher. The payout would have to rise by about 50% to match the old plan.
If interest rates are rising, the returns on the bonds it holds will be going down (unless they are holding them until maturity which many pension funds do- bond funds tend to resell their bonds prior to maturity). Interest rates are pretty low right now (certainly in the US- I cannot say where you are). I see they are trying to deal with that by going with shorter term bonds in the new fund. The longer term bonds gives them a more stable return on their investment but they do not react to higher inflation.

 

[DrCap]

Also, besides buying gold and silver how would one go about hedging oneself against inflation considering there isn't really much "cash on hand" at the moment?

Thanks!

If the loans have a locked interest rate, and he's not going to pay them off soon, he may already be hedged somewhat against substantial inflation. (with inflation the property value could rise while the debt gets eaten up by inflation). Buying PM's could work of course also, or he could simply leverage himself by buying long,out of the money options and then rolling them over ever year or so- kind of like buying insurance against currency devaluation- you pay for the contract, if you don't need it great, if inflation hits, then the contract value goes up... this method of course costs money to protect one's assets (namely his retirement account).
Anyway I think the new plan still smells of a scam given we are still in a deflationary environment.

 

[CasualApathy]

Thank you all again for your help. We have pretty much decided to stay on the old plan in part because of your advise. It is wonderful to have a place like this where people are happy to help out. My dad appriciates it greatly. Because he is staying on the old plan my dad will have to find other ways to protect himself against inflation, that is what i will be researching now. You have given some good suggestions, i will probably also look into Schiff with regards to this.

Once again, thanks for helping making a difficult decision a little easyer!
CasualApathy