We Are In Trouble: Part One of Our Special Five-Part Series
As the presidential election season of 2012 has gotten underway, there is a massive issue that has gotten very little attention: how Americans will sustain themselves in retirement. In 2010, there were 40 million Americans over the age of 65. By 2030, that number is expected to rise to 70 million, which represents 20% of the total population. At the same time, we have moved from a workforce with traditional pensions to one in which each person chooses how much to save and how to invest that money.
Only 42% of American private-sector workers between ages 25 and 64 have any type of retirement plan in their current job. The majority of Americans (67%) who have access to a pension plan have only self-directed accounts such as 401(k)’s and similar accounts (such as 457(b) plans which cover those who work at non-profits or who are employed by the state or local government organizations). A large number of Americans also have IRAs. We refer to these types of retirement plans as Defined Contribution (DC) plans as opposed to Defined Benefit (DB) plans, the traditional pensions that used to be the norm.
The traditional type of pension—a guaranteed income from retirement until you die—is the DB plan. The DC plan has no guarantees at all. Workers save and invest in these plans over their working lifetimes and plan (hope?) that they will be able to accumulate a sufficiently large nest egg to provide them with needed income after they stop working. There are many positive qualities of DC plans, but there are also a series of challenges that we, as a society, have to come to grips with if we are to avoid a future in which American workers have far less than they need in assets to provide a reasonable standard of living in retirement.
As we have transitioned from generations of people with secure lifetime income in retirement to one in which people have to rely on their own savings to fund retirement, there are major implications both for current and future retirees and for people currently in their working years. Older people finding themselves living in substantially reduced circumstances are likely to push for more generous government benefits and older voters are an active and influential group. Younger people will be burdened with increasingly high taxes and reduced future benefits, as well as ultimately bearing the consequences of growing national debt levels. It is in all Americans’ interests to come to grips with what we need to do to have a sustainable solution for retirement.
Savings Are Far Below Necessary Levels
It is clear that the average American household nearing retirement does not have enough savings to provide for the level of income needed to sustain a reasonable lifestyle. According to Vanguard, the median 401(k) account balance is $149,400 for people near retirement. The median household income for these same people is $87,700.
According to EBRI, the median balance in IRAs for males between 65 and 69 is $83,334 while the median balance for females in that same age range is $50,210. The median is the level at which 50% of people have more and 50% of people have less in savings. The average level simply sums up all of the accounts and divides by the number of people. The average always tends to be higher because there are a small number of wealthy people who pull the average up. In addition, some people have more than one IRA. When EBRI combined all accounts attributable to a single person and then calculated the average level of assets, the average for people in the age range from 65 to 69 is $170,672. The median level of assets when EBRI combines all accounts owned by one person is $58,965 for the age range from 65 to 69.
Some people have both 401(k) plans and IRAs, although many IRAs are funded by rolling money out of the 401(k) plan of a previous employer. Let’s imagine that a person near retirement has both a 401(k) plan at the median level and an IRA at the median level for a total of about $210,000. Realistically, that amount will provide less than $11,000 per year in sustainable income. The inescapable conclusion is that people are not saving nearly enough in 401(k)’s and IRA’s to retire with anywhere close to the standard of living that they have before they retire.
The Center for Retirement Research at Boston College, after looking at all of the data, concluded that “the median household headed by a person aged 60 to 62 with a 401(k) account has less than one-quarter of what is needed in that account to maintain its standard of living in retirement.” The New York Times explored the implications of this situation in a recent article. The impact of massive under-accumulation of savings in retirement plans is not yet evident because many of the current generation of retirees have traditional pension plans. Over time, retirees with traditional pensions will represent a smaller portion of all retirees.
The types of numbers cited here—suggesting that Americans near retirement have accumulated only about a quarter of what they need in financial assets—presage upheavals in our society. A larger fraction of future retirees are likely to be living primarily on Social Security and have little in the way of financial assets for anything beyond basic living expenses. For many of these people, their homes will be their principle asset. If the masses of retiring Boomers attempt to sell their homes to provide retirement income, this could be a major force in depressing housing prices. Clearly, many people in their mid sixties will try to continue working. Having an increasing number of older workers also has major implications for our economy. With unemployment around 8% and a much higher level of unemployment and under-employment among younger workers, fewer people retiring means less opportunity for entering a career. The repercussions of having a large population of people near retirement age who don’t have sufficient savings to fund retirement are complex and far-reaching.
In Part 2 of this article, I explore the estimates of how much people need to save at each point in their lives in order to provide for the levels of income that experts suggest will be needed in retirement.
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