The New Jersey lottery offers two payment options for lottery winners – cash or annuity. Choosing between the cash lump sum or the annuity payments over 30 years is an important decision that can significantly impact a lottery winner’s finances. This article will examine the key differences between the cash and annuity payout options and provide guidance on factors to consider when deciding which is the better choice.
Cash vs Annuity Payouts
The cash and annuity payout options for New Jersey lottery prizes over $5,000 are:
Cash Lump Sum
– You receive the entire prize amount upfront in one payment after required tax withholdings.
Annuity
– You receive annual payments over 30 years. Each payment is 5% (or 1/30th) of the total prize amount before taxes.
Here is a comparison of how a $1 million dollar NJ lottery prize would be paid out for each option:
| Payout Type | Payment Schedule |
|---|---|
| Cash Lump Sum | $1 million (lump sum payment after taxes applied) |
| Annuity | 30 annual payments of $33,333 (before taxes). Total payout is $1 million. |
As shown, the cash option provides you the full prize amount upfront, whereas the annuity spreads the full amount out over three decades.
There are pros and cons to each approach that are important to weigh when deciding.
Benefits of Cash Lump Sum
Choosing the cash lump sum has these key benefits:
- Full access to all money immediately for any purpose
- Avoids risk of payment default (annuity provider going bankrupt)
- Can personally invest and potentially earn higher returns
- Flexibility in using the money
- Estate planning benefits – can distribute funds immediately
The main appeal of the lump sum is having the full prize amount right away. This allows winners to:
– Pay off debt, make large purchases
– Invest the money seeking higher potential returns
– Use the money for any purpose without waiting 30 years
– Avoid long-term payment risks
Many financial experts advise taking the lump sum due to the time value of money and ability to personally manage investments. The lump sum gives winners full control and flexibility.
Benefits of Annuity Payments
The annuity payment option has these primary advantages:
- Payments are guaranteed for 30 years by annuity provider
- Provides stable income stream every year
- Potential protection from overspending/poor money management
- Payments may be exempt from state/federal income tax
- Do not have to manage large lump sum yourself
The annuity provides a form of insurance against improperly managing a large cash prize. By receiving 1/30th of the total each year, it prevents overspending and provides a steady income stream. While less flexible, annuity payments have tax advantages in some states and ensure long-term financial stability.
Are NJ Lottery Annuity Payments Taxable?
Whether the annual annuity payments are taxed depends on the state:
- Federal income tax – Annuity payments are taxed annually at the federal level. Payments are taxed as ordinary income based on your tax bracket for that year.
- New Jersey state tax – NJ is one of a handful of states that exempts state income tax on lottery annuity payments. So you do not have to pay NJ state tax.
While you avoid state tax in New Jersey, federal tax still applies to each payment. Many financial experts recommend taking the lump sum and investing it in a tax-advantaged account to minimize taxes.
What Happens When You Die With Annuity Payments?
If you die before receiving all annuity payments, here is what happens to the remaining amounts:
- The remaining payments go to your designated beneficiary (who you named when claiming prize)
- Your beneficiary receives the remaining annual payments on the same schedule
- Payments do not continue past the 30 year schedule
So the annuity payments do not entirely disappear if you die early – your beneficiary steps into your shoes and receives the rest of the scheduled payments.
This can be an advantage if you wish to provide long-term income support to heirs after your death. However, if you live past the 30 year period, annuity payments stop while a lump sum could provide lifetime benefits.
What Happens if You Die Without Naming a Beneficiary?
If you die and have not named a beneficiary, here is the process:
- The remaining payments go to your estate
- Your estate must go through probate court to distribute funds
- The annuity provider makes a lump sum payment to estate based on present value of remaining payments
- Your heirs receive the lump sum through the estate distribution process
So the remaining funds are not entirely lost, but the payment schedule ends. Your estate must go through probate and distribute the lump sum from the annuity provider according to your will or state law.
This emphasizes the importance of naming a beneficiary if you choose the annuity payments. It simplifies the transfer of any remaining funds when you die.
Comparing Returns: Lump Sum vs Annuity
To compare overall returns, we can project earnings on a $1 million cash prize invested conservatively vs. receiving annuity payments.
Assumptions:
- Lump sum invested to earn a 5% annual return (historical S&P 500 return)
- Annuity earns no interest
- Excludes impact of taxes for simplicity
Results:
| Payout Type | Total Payout Amount |
|---|---|
| Lump Sum Invested at 5% Return | $2.53 million |
| Annuity Payments | $1 million |
Based on reasonable investment returns, the lump sum invested over 30 years could earn significantly more than the annuity payments. This demonstrates the potential upside of accepting the cash option.
However, this assumes winners properly invest and do not overspend the lump sum. The annuity provides income security regardless of investment decisions.
Options to Invest Lump Sum
If you take the lump sum, smart investment choices are key. Here are common recommendations from financial experts:
- Savings accounts – Park some funds in FDIC-insured accounts for easy access
- CD ladders – Lock in higher interest rates with laddered short-term CDs
- Mutual funds – Invest in low-cost index and mutual funds for diversification
- Annuities – Use a portion to purchase a fixed annuity to create income stream
- Treasury bonds/bills – Provide very low-risk fixed income investments
A mix of these investments can generate income from a portion of the lump sum and growth from invested principal. Consulting accredited financial advisors is highly recommended to develop the right investment plan.
Proper investing, budgeting, and avoiding reckless spending are necessary to make the most out of the lump sum option.
Using Lump Sum for Debt Payoff
One of the best uses of a large cash prize is eliminating debt:
– Pay off credit cards, personal loans, student loans
– Pay off your mortgage and car loans
– Avoid future interest payments
By clearing personal debt, you can free up cash flow for other needs. Lottery winners often make large purchases which can add new debt. Starting with a clean slate helps make sure new spending doesn’t create long-term debt obligations.
However, financial advisors still recommend maintaining some liquid savings and not using 100% of a lump sum to pay debts. Having cash available provides stability and flexibility.
Impact on Income-Based Benefits
For those receiving means-tested government benefits, a lottery prize could impact eligibility:
– Disability benefits
– Medicaid
– Food stamps (SNAP)
– Subsidized housing
– SSI benefits
– Low income utility programs
By increasing disposable income or assets above qualifying limits, eligibility for needs-based assistance may be lost. This should be considered when weighing the payment options.
Consulting with social services agencies or legal aid experts is recommended if currently receiving any income-based government benefits.
Getting Financial Advice
Consulting qualified financial professionals is highly recommended when deciding between cash or annuity options. Key experts to consider include:
- Fee-only financial planners – Get unbiased advice rather than sales pitches
- Tax specialists – Strategize to minimize tax impacts of prize money
- Investment advisors – Propose smart investments based on your risk tolerance
- Estate planners – Help protect assets and plan for transferring to heirs
Beware advisors who earn commissions trying to sell you products. Fee-based advisors offer more impartial guidance.
Shop around and find advisors willing to be fiduciaries who put your interests first. Don’t rush into investments or products.
Actions to Take If You Win
Here are smart steps to take if you win a major NJ lottery prize:
- Confirm winnings with lottery officials
- Select a lump sum or annuity payment
- Consult tax and legal advisors
- Set up accounts to manage prize money
- Pay off any debts
- Make a long-term financial plan
- Make some charitable donations
- Only share with those who need to know
- Make modest lifestyle changes gradually
- Invest, budget, and enjoy your winnings responsibly
Proper planning and advice can help lottery winners avoid risks like bankruptcy or fraud. Take time to make informed, rational decisions about managing a financial windfall.
Potential Downsides of a Large Cash Prize
While having a big lottery prize may sound like a dream, there are some potential downsides:
- Family/friends constantly asking for money
- Being overwhelmed and making poor decisions
- Being targeted for scams, fraud, lawsuits
- Feeling pressure to make “big” purchases
- Overspending through poor money management
- Potentially losing eligibility for public assistance
- Relationship changes with family/friends
- Potentially having a less satisfying life
There are many stories of lottery winners whose lives took bad turns after a big win. Avoid falling into the “lottery curse” trap by being prudent, keeping a low profile, and not dramatically changing your lifestyle right away.
Making sudden big purchases like luxury cars or mansions can jeopardize your finances. Take time to adjust and thoughtfully consider major life changes.
Key Factors When Deciding Lump Sum or Annuity
Important considerations when evaluating lump sum vs. annuity options include:
- Your ability to properly manage a large lump sum
- Tax implications in your state
- Desire to leave inheritance for heirs
- Your life expectancy and health
- Other debts you want to repay
- Concerns over long-term payment security
- Need for stable income stream
- Ability to get better investment returns on lump sum
Younger, healthier winners lean more towards the lump sum to invest over their lifetime. Older winners may prefer the annuity for guaranteed income. Those with debts often choose the lump sum for immediate use.
Think carefully about your specific situation and consult with trusted financial experts before deciding. Neither option is universally better or worse – it depends on your circumstances.
Conclusion
The cash vs. annuity decision for large lottery prizes involves weighing tradeoffs in flexibility, return, and stability. Many experts favor lump sums due to higher investment potential and avoiding long-term payment risks. However, annuities provide income security and protect against overspending.
Carefully considering your specific needs and getting sound financial advice is key to prudent management of lottery wealth. Avoiding reckless behavior and maintaining some discretion after a jackpot win can help ensure your windfall leads to lasting prosperity.
