Lottery Annuity vs. Lump Sum: Which One Is Better?
We are confident that we do not need to tell you that winning a lottery jackpot is a life-changing moment. It ushers in financial freedom, the ability to quit your job and do what you love, and even the ability to help others out. However, before any of this happens, winning the lottery ushers in something else—a massive decision.
This significant (and incredibly important) decision is whether you would like to claim your winnings as a one-time cash lump sum or as a series of annuity payments. Each of these options has its own advantages and disadvantages and could easily leave you conflicted as to which one is better. In this article, we will look at the battle of annuity payments vs. cash lump sum payments to see which one could be best for you.
What Is the Difference Between the Two Options?
The difference between the two options is rather stark. When opting to receive your lottery winnings in a cash lump sum format, you will receive the full total of your winnings (minus taxes of course) all at one time. This means that if you are eligible to claim $100 million after taxes, your bank account will be credited with the full $100 million in a single payment.
Conversely, annuity payments are spread out over a number of years (generally between 20 and 30). If you choose this type of payment, you will receive an initial payout followed by 29 annual payments (if a 30-year annuity is selected). Using the example of winning $100 million above, this means that you will receive an initial payment of $1.5 million, followed by 29 payments of a similar amount over the next 29 years.
Annuity Payments
You may be wondering why on earth anyone who has won a jackpot would like to take their winnings in the form of annuity payments. After all, they already won—and now is the time to live large and spend cash! However, there are a number of good reasons that an annuity payment may be the better option when compared to a cash lump sum. This is due to the advantages that accompany annuity payments. We have highlighted these advantages for you below.
Pros of Annuity Payments
Annuity payments mean that you receive your full winnings (or as close to your total winnings as possible). Many lotteries advertise fantastic lottery jackpots that make people jump with joy when they realise they have won. The sad truth, however, is that these advertised jackpots are generally only available if the winnings are taken as annuity payments. Cash lump sums are often penalised, and winners land up with much less (usually about half) than they expect. Taking your cash as an annuity avoids this, and you will usually receive the full jackpot amount advertised.
Annuity payments factor in inflation. Most lottery annuities work to factor in inflation when calculating how much to pay you each year. This means that your annuity payments will automatically increase by a set percentage each year. Using Mega Millions annuity payments as an example, all payments are increased by 5% every year.
Annuity payments help in terms of tax. Depending on where you are living, you could be forced to pay over a rather large amount of your winnings to your local taxman. Annuity payments help mitigate this slightly because taxes are only calculated each year when a payment is being made and only on the amount of that single payment. This means that if the taxes in your region drop from one year to the next, you will pay less tax on your winnings than you might have had to do otherwise.
Annuity payments protect you (and your wealth) from yourself. Sadly, history has shown that many lottery players manage to eradicate their entire fortune within just a few short years of winning. Annuity payments stop this from happening by only allowing you access to a portion of your winnings each year and protecting the rest. This ensures that you cannot spend all your winnings in a short span of time and makes sure that you will have winnings for many years to come.
As you can see above, there are plenty of advantages to choosing annuity payments over a cash lump sum. However, as with all things in life, there is another side to the story. Below are some of the biggest cons that you will face when opting to receive your winnings in annuity payments.
Cons of Annuity Payments
Your money may be tied up, and you may not be able to afford the things you want—right away. Because annuity payments only give you a small slice of your pie each year, you may find yourself wanting to make a particular purchase or investment that you cannot actually afford without saving up your annuity payments over a number of years. This could lead you to feel less financially free that you thought you would when becoming a lottery winner.
You may not have the opportunity to claim all your winnings. As is a sad part of life, we all move on from this earth at some point. Choosing annuity payments to receive your winnings when you are nearing the end of your life may result in you not even being able to receive all your winnings before you die.
Your payment for taxes could increase. Although they generally help protect you from high taxes, there are situations in which annuity payments could actually do the reverse. If taxes increase significantly due to external factors, you may find yourself paying much more tax annually than you would have done if you had taken your money all at once and paid tax upfront.
Cash Lump Sums
If you are not keen on taking your lottery winnings in the form of annuity payments, you can choose to receive your winnings in the form of a cash lump sum. This is often the preferred option for lottery winners because it allows access to staggering amounts of cash incredibly quickly. However, as with annuity payments, it has its own unique pros and cons. Some of the advantages of selecting to receive your winnings in one go include the following.
Pros of Lump Sums
You have full control over your money, and you do not have to wait to receive it slowly. The most significant advantage of selecting a cash lump sum is that you will get all your winnings paid out in a single payment. This means that you are free to spend as much or as little of your money as you choose—and exactly when you want to spend it. You will not have to wait for annual payments in order to afford large purchases but will be able to do as you please from the get-go.
You pay tax once and then do not have to worry about it again. Unlike annuity payments that require you to pay tax each year when you receive your annuity, cash lump sums are only taxed once—when they are paid out. While this tax may take a rather sizable portion of your winnings (up to 30% in some US states), the advantage of doing this in the beginning is that you will not have to worry about paying any future taxes on your winnings. What you are left with is 100% your money at that point and it will be untouchable by the taxman, the lottery operators, or anyone else.
You have the ability to earn more money than an annuity option would have done for you. When you select to receive your lottery winnings as an annuity, your winnings are invested, and the interest becomes part of your payout. However, if you choose to receive your winnings as a lump sum, you will have control over where you would like to invest your money—if you decided to go that route. This means that, depending on where you choose to invest, you could receive better returns on your cash that an annuity would have managed to do. This leads you to earn more money than you would have if you had chosen to receive annuity payments.
You may be thinking that the fact that you receive all your money at once is already a significant weight in favour of choosing a cash lump sum. However, as with all things, there is a flip side to the perks of having your bank balance show a large number of digits in a short space of time. In fact, as outlined below, some of the cons of cash lump sums are rather harrowing.
Cons of Lump Sums
You have full control over your money, and you do not have to wait to receive it slowly. If that sentence looks familiar, then you are correct. Not only is this statement one of the biggest perks of a cash lump sum, but it is also easily its biggest downfall. Lottery winners the world over have proven that sometimes getting a large amount of money at one time is not good in the long run. In fact, statistics show that in the US alone, 33.33% of jackpot winners file for bankruptcy within three to five years of their win—no matter how astronomical the jackpot they won was. This is due to the fact that they squander their money on frivolous purchases without regard to how much they are leaving for the future.
Your jackpot will be worth a lot less than what you may expect. Advertised lottery jackpots are always almost annuitized amounts. This means that the amount advertised is made up by taking an initial investment amount and adding the calculated interest that that amount will earn over the 30 years of the annuity. When selecting a cash lump sum, however, only the initial investment amount is offered as winnings. This means that the amount paid out is often significantly less than what is advertised.
Taxes could take a significant portion of your winnings. While it is true that you will only have to pay taxes once and never again, it is still rather sobering to calculate just how much you will be paying on taxes if you select a cash lump sum payment. The downside to this is that, if taxes decrease in the future, you could possibly end up paying less in taxes with an annuity option. However, if taxes rise, selecting the cash lump sum could also save you on taxes.
So Which Option Is Best for Me?
This is the tricky question that many lottery players want to be answered. Unfortunately, while it is easy for us to state all the pros and cons of the two payment options, it is not as simple as saying which option would be best for individual players. This is because of the wide range of things that have an impact on the decision. When deciding if you should select annuity payments or a cash lump sum, you should carefully consider all of the following items:
Your current financial situation
Your current indebtedness
Your family status (e.g. do you have dependants?)
Your age
Your employment status
The financial stability of those that you are looking to help
The plans that you have formed to use your winnings on
The current economic climate in your country/globally
Tax repercussions between the two options in your region
The applicable laws and regulations in your region
Your self-control over excessive spending
The advice that you receive from qualified financial consultants
Of all the things on the list above, one of the most important things to take into consideration is the final item—the advice that you receive from qualified financial consultants. These consultants are trained to take all of the other items listed above into consideration when trying to calculate what would be the best for you financially. It is for this reason that it is so vital to ensure that you hire a reputable and qualified financial consultant as soon as possible after discovering that you are a winner. This simple action could be the difference between ensuring your financial stability for generations or becoming another sad lottery winner statistic.
However, if you do decide to go with one or the other option, it doesn't necessarily mean you have to be bound to it for life. That's because there are third-party companies that can hold on to your cash lump sum and pay you out on whatever payment schedule you choose, just as there are companies that allow you to sell your annuities if you ever decide you need access to more money than your annual payments afford you. While neither of these is preferable since they come with their own issues—and costs, of course—it is nice to know that you have something to fall back on if you ever feel you chose the wrong payout method after your big win.
Conclusion
With all said and done, there is no clear answer that you will be able to find online or elsewhere that will tell you whether annuity payments or cash payments are better. Each person will believe that a particular pro or con of one of the options overrules those of the other, and though most winners prefer to take the lump sum, there are quite a few winners who opted to take the annuity option as well.
In the end, the decision is best made when looking at your personal situation as a whole. Therefore, as stated above, we recommend finding somebody that you can trust—and who has managed wealth as large if not larger than what you’ve won—who knows what to look at regarding your current and future finances. This way, you will be able to make the decision that is best for you.
