The practice of retirees selling their pensions for a lump sum has drawn U.S. regulators' attention, with two government watchdogs this month warning consumers about some of the firms that engage in the practice.
"We're very concerned about the long-term detrimental effects of these pension sales," said Lori Schock, director of investor education at the Securities and Exchange Commission.
"While there are some legitimate firms, there are plenty that are not, and it's a challenge for us as regulators to keep track of them," Schock said. "Some of these are scams."
Analysts say there are no definitive numbers on how many people are selling their pensions for cashs, but Schock said that an increase in consumer complaints, as well as recent media attention, prompted the SEC and the Financial Industry Regulatory Authority (FINRA) to issue a warning over pension sales earlier this month.
The alert said that pensioners should think twice before cash-up-front deals—cautioning that sellers may not be aware of hidden costs. The agencies also warned that investors who put up the money through pension-buying organizations in order to make the acquisitions may not see the returns promised to them.
"We usually get concerned on the investor side of issues," said Schock. "But we're also worried about those who sell their pensions and what this does to them."
"We look at these loans as fairly fraudulent and predatory," said Nancy Hwa, a spokesperson for the Pension Rights Center, a nonprofit consumer advocacy organization.
"This is a fairly new situation in the number of pensioners selling, and we're worried that when they become strapped for cash they will sell their pensions," added Hwa. "We don't think it's a good idea."
An online search quickly reveals several firms offering to buy pensions for a lump sum of cash.
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"PensionStream.com is the go-to source when you want to leverage a retirement income stream for a lump sum of cash, in order to cover an unexpected life event, finance an opportunity, or simply to have the peace of mind that cash on hand can bring," says one site.
Emails and phone calls to the top three online search results—PensionStream.com, Pension Funding, and LumpSum Pension Advance, were not returned.
Most say bad credit is not a problem and no references are necessary to secure the cash. The messages target any type of pension—be it military, civil service, or corporate. Pensioners sign over their rights for all or some of their pension to the buyer for a lump some of money.
But what's missing from the sales pitch, say experts critical of the practice, are the fees that come with the cash— fees that in effect become interest rates somewhere between 25 and 100 percent.
California and other states have requirements to divulge the difference between the promised upfront cash and the value of the pension over time. But that's often overlooked by sellers, critics say.
"These companies don't call them loans, but a lot of people don't realize they end up paying more in fees than if they took out a loan from a bank," said Stuart Rossman, director of litigation for the National Consumer Law Center,a nonprofit consumer advocacy group. "If you compare bank interest rates to the fees, the fees cost more. Pensioners actually get less cash than if they took out a bank loan."
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One particular egregious part of the loans, Rossman said, is the way the firms target military pensions.
"By law, military pensions cannot be assigned to a third party," Rossman explained. "But these firms set up a power of attorney account in a bank where the pensioner's money goes into the account that's controlled by the pension buyer and the person who had the pension can't even stop the withdrawals. It's really bad."
Schock pointed out how pensioners lose future earnings when they settle for upfront cash.
"We get cost of living increases with pensions, but if you sell them, you won't get that increase," Schock explained.
Mandatory Insurance
Another criticism surrounding pension payouts is the often required buying of life insurance polices by the pension seller. The buyer of the pension becomes the beneficiary so that if the seller dies prematurely, the buyer still gets the value of the pension.
"This is a great selling point by the firms that do the lending to get investors," said Rossman. "Most of the companies don't use their own money for the loans, they get others to invest. Promising a life insurance policy is one major selling point for these cash buyouts. "
But investing in pension payouts is risky, said the SEC it its statement with FINRA: "Pension income streams carry high commissions of 7 percent or more and they can be tough to sell if an investor wants to cash out early. And investors in pension income streams could face legal challenges to the arrangements."
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"It's a bit of a gray area for us," said the SEC's Schock. "The best we can do right now is just warn people about the dangers. There's not much else we can do."
Until there is some sort of oversight—and there is no proposed legislation at this point—it's buyer beware, said Greg McBride, chief economist at Bankrate.
"It's understandable why people might want to sell their pensions for the cash in today's economy," McBride went on to say. "Seniors might have emergency medical needs and things like that."
"But the beauty of a pension is you know the money's there and you can count on it," said McBride. "If you have a lump sum you might be tempted to squander it. So anyone thinking of this better know what they're getting into."
