In these financial times, many people are looking for ways to get a little more cash — usually in lump sum form. The thinking is that a lump sum could pay off debt, or cover medical bills. For those receiving some sort of settlement payment, or receiving annuity payments, it is tempting to turn to one of the companies, like J.G. Wentworth or Peachtree Financial, that offer to “buy” your annuity or settlement, giving you a lump sum.
This arrangement works when you sign over the right to receive your regular installments (which may be monthly, quarterly or at some other interval) to the company. This company then pays you a lump sum. This lump sum is usually the value of your settlement or annuity, minus a fee. And this is where things can get a little sticky. After all, companies are in business to make money. Therefore, you may pay fees of between 9% and 15% or more. These fees are deducted from the total amount you would receive. So, if you had a $50,000 settlement, and you were charged a 15% fee, you would actually only get a lump payment of $42,500. If you desperately need this money though, you might not mind, since the monthly payout of $50,000 over a period of years might not be enough to sustain you.
Another consideration is related to taxes. You will need to find out the tax implications of taking a lump sum, and what happens when you cash out your annuity. In addition to taxes, many annuities have certain surrender fees that have to be considered. You may have a $100,000 annuity, but by the time you pay fees for turning it over elsewhere, pay the surrender penalty and fulfill your tax obligation, you might be sorely disappointed to discover that you take home less than half the annuity’s value.
But things aren’t all negative, as this arrangement can still be value in some cases. If you have a great deal of debt that could be cleared with the help of a large lump sum, it might be worth it — especially if your credit cards and other loans charge a high rate of interest. Additionally, many people use these lump sum arrangements to pay high medical bills. Having a lump sum can also be helpful in other dire financial situations. If you feel that your desperation outweighs the costs of converting a steady income stream to a lump sum, then it might be the right move.
However, it is important to weigh your options and consider your habits. If the lump sum agreement is the only thing keeping you from financial insolvency, it is a good idea to examine the habits that led you to this point. Unexpected catastrophes including medical problems and even long-term job loss could, in some cases, come from your own negligence. Building an emergency fund going forward, or taking other steps to protect against future events, may be helpful, and a large sum of money can go a long way toward getting you back on your feet.
If your problems stem from poor spending habits and large amounts of consumer debt though, it is a good idea to reform your behaviors. Otherwise, the lump sum will only provide a temporary band-aid for the problem. Your debt may be paid off, but if you have poor spending habits, you will soon find yourself in the same position again — but with no settlement payment or annuity to convert into a handy lump sum.
In the end, what you do with a monthly payment of this nature is a cost-benefit situation. You will likely keep more of your money in the long run if you continue receiving the regular payments, and they will provide at least one reliable income stream. Be sure to consider all of your options, and look at the big financial picture before you convert an annuity or settlement payment into a lump sum.
Editor’s Note: More and more, I’m starting to see the beauty of annuities, or more specifically, a consistent and dependable income. Since you already purchased the annuity, be extra cautious about why you would want to give up something so dependable. There are some rare cases, as Miranda highlighted, that make this decision worthwhile but most of the time, it’s not a good idea. Think twice.
- E*TRADE IRA - Official Site