FREE NEWSLETTER
Go to main Forum page »
I read Adam Grossman’s article Riding the Rails with great interest. He gave a well balanced perspective on retirement income strategies, but I came away thinking it’s complicated and scary no matter which approach is used – the point is these strategies are beyond the ability of many people and perhaps more so as we age.
There must be a better, that is, simpler way although I admit I don’t know what it is. Does anyone want to live in retirement knowing that to sustain their income at some point they may have to cut back on spending, perhaps even on core expenses? I doubt it.
Dealing with inflation is hard enough. Dealing with the amount of income available is downright frightening.
I view this from the outside looking in, I don’t live off investments. I know the simplicity and calm of a steady income – plus investments accumulated in and out of retirement plans.
We need to do a better job of integrating annuities into 401k plans. Today few employers offer them and fewer employees use them, but the law permits them, even attempts to encourage them by limiting employer liability.
Taking a chunk of money you saved and turning it over to an insurance company for the future, even your future, is not easy for sure, but what if that was not necessary?
What if one option in a 401k could be used as a form of pension. The contributions gradually purchase an annuity over many years? The worker could see the annuity value growing each year. No major lump sum investment required.
What if the employer match could be designated for an annuity? Needless to say this probably requires new types of annuities from insurers.
Another possibility:
I once strongly disagreed with this, but I’m starting to think the retirement security answer for most Americans is greatly enhanced Social Security income – with taxes sufficient to keep it solvent indefinitely – a form of forced savings and a guaranteed annuity. We could require employers to pay more than 50% of the cost, especially those that don’t offer any retirement vehicle.
Can the majority of workers plan and execute financing their retirement decades in the future? Individual responsibility sounds good, I often promote it, but I think the evidence is clear, most Americans are not, can not and will not do so.
Make no mistake, the HD community is not representative of the general population. Talk about the 4% rule, bond ladders, guard rails, Monte Carlo calculations even asset allocation, heck spreadsheets never mind SWRs with a friend and more often than not you will see a blank stare.
Financial literacy and education need to be enhanced, but even that won’t do the job when living for today, immediate gratification and all else encouraging us to spend money now dominates our lives.
Am I being too pessimistic? I hope not, but much of the research and surveys indicate otherwise. Where is the good news about retirement for the great majority of Americans?
For decades we have not even been able to address the ongoing solvency of Social Security. Yet we expect average Americans to do better on their own.
I think not😢
Richard, true, this is a very sobering realization and one that I worry about with my grown kids (millenials) and their families all the time. Yes, they saw what we did as they were growing up to save and plan for the future, but was that enough to “teach them” the steps they need to take to succeed?
As for your comment “We could require employers to pay more than 50% of the cost, especially those that don’t offer any retirement vehicle.” Good luck with imposing that as a requirement of employers! I think its time to shift the burden of the retirement planning “partnership” back to the employers as it was before the 401k boom of the 80’s. Who will do it and fix Social Security so it is adequately sustainable? The Government? We need a new Ted Benna (the Father of 401ks) to step forward and somehow develop the new paradigm of Employer/ Employee savings to include annuities in lieu of traditional pensions.
A decent pension plan can be funded by about 8% of payroll, but the way the funding and accounting working the financial impact on plan sponsors is far greater and affecting earnings and fluctuating.
Not so with a defined contribution plan where 8% or any percent contribution is just that, a cost that only fluctuates with the base payroll.
Employers could and should fund such plans even without employee contributions. 5%, 6% 8% something
Eight percent of payroll for a pension seems low. The average combined pension contribution rate for state and local employers is 29.82% with the typically employee paying about 7% of that and the employer the rest. These numbers are for 2022 and come from Equitable. OECD reports that the contribution rate is 18.2% in 2020 for the 35 OECD countries that have specific pension contributions.
Some employers already fund defined contribution plans even if the employee does not contribute. My last employer contributed 3% even if you put in nothing and more if you did.
I think the reason state and local plans are so much more expensive is that in most cases those plans replace social security, while corporate plans are in addition to social security. As an aside, this makes comparing state and local plans to corporate pensions an unfair comparison. It’d be more accurate to compare them to social security. Then suddenly they don’t look so generous in comparison. For example, my wife’s state pension benefit does have a COLA, but it’d better since she didn’t participate in social security while in the state plan. Also her state pension check has had a cumulative COLA of 6% since she retired in 2018. Meanwhile, inflation is up over 20% and social security COLA’s have been much more generous.
That is not correct. Here is what Equitable has to say about it;
It is important to keep in mind that states and cities do not uniformly participate in Social Security. Most individual government units do also enroll their employees in Social Security, but a few governments never opted into the federal program.
My quick look at Equitable public data base shows about 200 public pension plans with only about 50 of them exempting their employees from SS. The cost to employees and employers for these plans is much higher. Employees in pension plans that do not exempt them from SS pay about 6% while those in plans that do exempt them pay about 8%. Employers with exempt plans pay about 43% while employer with plans that do not exempt employees from SS pay about 25%. I’m guessing that is because these non-participating locations offer larger benefits, and these require larger contribution rates.
But either way, Mr. Quinn’s estimate that a decent pension plan can be funded by about 8% of payroll is still less than the 30% cost of payroll for public pensions that don’t exempt an employe from SS.
That estimate of 8% came from a very experienced pension actuary.
The state and employees save on SS taxes too when they are exempt. But State plans are generous typically because of the way they define pay included in the formula – OT and sometimes unused disability days, how they define early retirement often just on years of service, disability retirement and in the case of one state they allow workers to take loans from the plan at rates lower than the assumed rate of return for the fund and then in many cases the COLAs
State and Local plans do not always preclude Social Security. My wife worked for a large city government and has an excellent defined benefit pension as well as retiree health benefits that cover both her and I as a supplemental plan to Medicare, for which we pay zero. In addition, she is covered by Social Security (although not drawing yet). She also had a 403b plan, which included a match. Maybe this is the reason why local governments are in such dire financial condition.
relative to private plans, government pensions are incredibly generous in all their plan provisions and do cost two to three times as much. One of the reasons they are collectively underfunded by trillions of dollars.
i am talking about benefit formulas, ER rules, COLAs, disability pensions, etc.
It is true that public pensions are more generous than private plans. Many public pensions allow one to start collecting at age 55 if you have enough years of service, as opposed to 65 for most private pensions no matter how many years you worked for the company. Many public pensions also have some sort of COLA while most private pensions are fixed for life. (Would anyone consider a pension without a COLA as a “decent pension?”). These would tend to drive up their costs.
Public pensions also have some big advantages over private pensions that would drive down their costs. One of the biggest is a better regulatory environment. They are not covered by ERISA and don’t have to deal with PBGC. The ability to retained traditional actuarial methods to smooth their contributions over time instead of following the legislated funding requirements is a big difference. Also, some 40% of public pensions delay vesting until ten years verses the ERISA which forces most private pensions to vest by five years.
Does all this mean that public pensions cost two to three times what a private pension would? I don’t have any good data on private pension costs so let’s say it does. In my early post I showed that employees and employers in pension plans that do not exempt them from SS pay about 30% of total payroll cost. That’s 15% to 10% if Mr. Quinn is right.
Spot on Richard!
I think that HS and college kids need to have mandatory personal finance classes to help them with all the major facets of their finances, not just investments.
I took a personal finance class in college in 1977. I was 32 at the time with wife and 2 kids so I had already learned how to deal with many issues that were taught. It was a great course for me, but must have been invaluable for young people who did not have my life experiences.
I still remember the professor stating that we had a poor chance of beating the market because of all the Wall Street MBAs and experts.
I think a course today that focused on personal finance and how to invest safely, not a DIY, would be great for HS and college. People need to be warned about all the sharks and pitfalls of investing without getting into DIY.
Most people have little interest in DIY investing, but they need to understand how to invest without getting fleeced.
While I think a course in personal finance in high school and college would be great, I worry that the financial services industry would try to influence the course content.
I think it would be great if personal finance was taught in all high schools. But don’t imagine that’s a panacea. First, there are all the behavioral issues that derail our good intentions, not least the short-termism that’s hardwired into our brains, and which causes folks to ignore the need to save for the future and to focus too much on short-term investment performance. Second, research suggests that what we need is just-in-time financial education — a refresher on mortgages when we buy a home, a quick course on investing when we’re making our 401(k) choices. Most financial education is long forgotten by the time folks could potentially put it into practice.
I agree. I asked a couple of my grandchildren who said they had financial education classes in school a few basic questions. They didn’t know the answers. No reason to remember when you are 15.
I’d agree education/ enlightenment has to land at the right time. For many of my peers at HS, we went to college and got hands on experience at ekeing out a budget and trading down on the boring stuff to enjoy more gigs, beer and parties.
One friend went straight into work at 18 and got himself into quite a hole with the easy credit afforded to him by virtue of the steady paycheck. For him a mandatory community college course on starting work with some home truths would have served him well.
I do wish employers would do more hands on education. These days there is token generic blurb on our company intranet about financial wellness and I guess a helpline/ counselling of sorts for distress. But no practical zoom training which focuses on realities or strategies. And anything communicated around company DC pensions savings is famously late, impenetrable and follow up questions are met with suspicion or fob offs.
I think us boomers lived through a time of change, didn’t really pay attention to retirement. When we started working, pensions were still around. In 1980, I bought an annuity and it was guaranteed for 5% interest. I goofed in 2000, thinking I could get more on advice of a planner, and it has not really recovered. We bought more IRA annuities in 2009, and the peace of mind was great, but have found we cannot move planners with our investment. They yield about $1K/month, but if we take out more, it reduces the terms of lifetime income. It is a conundrum: money we cannot access, really, without penalty. Paid off the house, same story: just about any option is costly interest wise. I think, for beginners, it would be great to do a Roth in a no load stock index fund until you have a decent sum. We changed our lives often, so our savings are under $200K, and just not quite enough for large expenses and travel. Frugality and simplicity matter.
Don’t quite understand. Is the planner holding capital that wasn’t surrendered to buy the annuity hostage? Sounds shady to me.
Generically I think your strategy recommendation is good. After any employer matched retirement savings worth younger people filling after tax protected accounts for a) future flexibility and b) while their marginal tax rate not so high. Of course younger people are least likely to have much surplus to invest because of all the starter life costs and lower earnings.
Shoring up the Social Security system will require some combination of an increase in taxes or some decrease in benefits or an increase in the retirement age – no way around that. Congress has been unwilling to enact any of the above fixes and the voters will likely return almost all of the Congressmen and Senators to office come November. Clearly American voters, collectively, are willing to let the can be kicked down the road. This will not end well.
Actually it can be made sustainable without cutting any benefits. Lots of relatively small changes add up. For example, eliminate the SS tax-free status of Section 125 cafeteria plans. Require new state employees to join the system.
The Committee for a Responsible Federal Budget as an interesting interactive tool for testing out possible SS fixes. Using this tool one sees that applying the payroll tax to Cafeteria plans would close 10% of the gap and requiring new state employees to join SS would close another 5% leaving 85% of the gap to cover. You could apply the payroll tax to all wages and close another 60%. You would also have to raise the SS tax rate by 1% to close the gap. That would be a significant tax increase.
I use that tool all the time. I did not mean those items alone solve the problem, just examples of some of several changes possible.
It is a neat tool. They include the option for removing the cap on taxable earnings with the wages above the current cap also counted in the formula that determines benefits. I’d like to see the option to remove the cap for taxes and but keep the cap for computing benefits. That should significantly increase the 60% impact on the gap.
In 1983, Congress made some changes to Social Security. Many people cannot wait later, due to physical changes in their sixties, so I hope they augment the tax, so low and middle income people can be ok. I was also a stay at home mom, paying the price. It is a subject that really needs to be seriously taken up by congress, not kicked down the road.
Thank you, Dick, this was really good and I agree with it. We are some of the “regular people” you talk about who had to get educated on our own. I am thankful we did. I think annuities are scary to regular people b/c how they are now: turning over a large sum, for not necessarily a big payout, makes them not seem worth it. It is hard to think 30 days ahead sometimes, much less 30 years or more. And some of them are complicated to understand. I really liked your idea of the employer matching part maybe being the annuity part. But people don’t work 40 years for the same company so much anymore, even us. The best we could do was have some in different pots. Chris
I agree that the HD community is an anomaly regarding proper retirement planning. The vast majority of Americans don’t worry about retirement until it’s time to retire and then it’s too late.
Years ago, participants in TIAA-CREF retirement plans only had life annuity options. By most accounts, the annuities were (and still are) excellent products in comparison to commercially available products. Now that the millions of TIAA participants can select RMDs and other withdrawal options, only about 30% choose annuities, even with encouragement to do so (“this could be your paycheck in retirement”). The public seems generally reluctant to annuitize, and guardrails would likely be needed should annuities be integrated into 401k’s. But I agree with Richard that moving towards this would be the right direction.
My wife and I are retired academics who have accumulated sizable amounts in our 403(b) TIAA Traditional Annuity accounts. While we were working we viewed the Traditional annuity as an alternative to the amount that we would have invested in bonds. Contributions to the Traditional plan accumulate at a guaranteed minimum rate of 3% with a current rate of 4.75%. The only restriction on our TIAA Traditional annuity accounts during both the accumulation period and after retirement is that any withdrawals other than RMDs must be taken over a period of at least 10 years.
Even though we both retired 5 years ago we have only withdrawn our RMDs from our Traditional accounts because we haven’t needed an additional income stream. However, we are thinking of annuitizing some our money now that we are in our mid-70s so that we can take advantage of what TIAA refers to as a loyalty bonus for those who have contributed to their Traditional annuity over a long time period. I checked today and my payout rate on an immediate fixed annuity from my investment in the the Traditional plan is 10.1% versus 7.8% from New York Life.
I agree, for the majority of Americans it has to be a mandatory system with no wiggle room for early withdrawals etc.
It’s not depressing. It just is. There are plenty of financial advisers out there to hold people’s hands and the good ones will do all of the stuff talked about on these pages. And there probably has never been a better time in history for people to self educate and take control of their own retirement including timing. I’d personally hate to be forced to annuitise too early because it might hamper my plans to retire early.
Yes to take control people might need to do all the things that anathema to you like budgeting, tracking costs, working out rates of saving and withdrawal. But that’s a better way to live surely than working to SS age then being scared of the next bill.
Yes, should have waited a bit longer to annuitize.
Nothing said about forced to annuitize, an option in 401k, own money, employer match or both and not necessarily with all the contribution.
If people took control and did everything right their entire working lives there would be no need for this discussion. They don’t ‼️
But how would people sensibly make the decision early in life as to whether to annuitize that year’s contributions or not? You’re looking at locking in 30- 40 years hence for an income whose real value when you access it is unknowable. Vs a more understandable savings pot with actual prospect of growth. The potential for 401k providers being opened to class actions many years in the future seems real.
I think it’s probably preferable to hammer home a message of “save else you might consider cat food luxury eats” and let people take the significant decisions on how to draw income once they know their financial personality and the time frame is the potentially 30 years of retirement not 30+20/30.
In short let’s say you’re 30 and have a total 401k contribution of 10k for that year. And the provider says do you want to buy an annuity of 1k per year at age 70 which will uplift at the higher of (inflation index) or 2% including all years to age 70. Do you take that deal or not? How do you begin to understand whether that’s good or bad without getting into modelling yourself?
Hmm no answer on this. Do we assume that’s because the “simple” solution of buying annuity each year as we work is far from simple? Or can someone explain to me how it would work and prove it is an absolute good thing for employees?
Remember buying an annuity is a contractual irreversible deal far from the accruing a portion of one’s final or weighted average salary as a pension each year.
I agree with your overall sentiment. I don’t know what the answer is, but I’m skeptical the problem will be solved following the current approach.
For once I agree with you. I believe SS was supposed to be a third of a retiree’s income, with company pensions and savings providing the other two thirds. Well, US company pensions didn’t have COLAs and in any case barely exist today, and expecting most people to be able to rely on savings for two thirds of their income is a fool’s dream. We need a much more generous SS payout, with COLA, or some new forced savings scheme that converts to an annuity with full COLA at retirement age. Or both.
I would like the COLA for Social Security to include housing and food in their calculations.
It absolutely does include those items. Why do you think it does not?
It does by virtue of using CPI-W.
It was typically referred to as a third leg of the retirement income stool not a third of the retirees pre-retirement income. In fact, for average income retirees, SS is nearly 40% of working income.
Please feel free to agree with me more😃
I just went back and read Adam’s article. Yeah, you’re right, no way is the average retiree going to use guardrails when they can’t even complete a simple tax return on their own.
You and i have commiserated in the past about attempts to help employees (in your case) and co-workers (in mine). They just weren’t buying it.
Annuitization options through the 401k plans would be a good step forward, as would using actuaries to determine SS payroll taxes in order to keep the system solvent.
The actuaries point out to Congress every year in the Trustee report the payroll percentage shortfall funding SS – which has consistently been ignored.
I agree with you. The tax percentage should be automatically adjusted every year based on actuarial calculations to always keep the program solvent. Keep politics out of it.
Annual adjustments would be modest if consistently applied.
But who ever heard of a government program that was adequately funded once implemented 🤑
I agree with your responses but I have to add that I think the only Federal program sufficiently funded is Congressional Pay and Perks!