| ||||||||||||
Many people retiring from the workforce may not have the money necessary to maintain the standard of living they have become used to during their working years. Are you one of them? Have you done the math?
If you are, it can have a range of implications.
- It may mean cutting back on luxuries, entertainment, hobbies, or travel you had hoped to enjoy in later years.
- It may mean adjusting to lower-income living and, perhaps, relying on government assistance.
How did the overall retirement picture become so challenging? It came about through a combination of saving changes and investment challenges.
The retirement savings stool
The fundamentals of retirement saving traditionally relied on the “three-legged stool” model:
- Pensions
- Personal savings
- Social Security
Essentially this three-legged stool model of retirement security combines a pension or 401(k), personal savings, and Social Security into a complete income picture.
But this model has undergone some changes in the past few decades. Indeed, for a good portion of pre-retirees, one or more of the retirement stool legs may be … wobbly. How wobbly will depend on individual circumstances. Indeed, some people consult with a financial professional to discuss what kind of financial carpentry may be in order.
Connect with a MassMutual financial professional
Here’s a look at what’s changed for each leg of the stool and what can be done about it.
The pension and 401(k) leg
Competitive and economic forces have prompted many companies to shift from defined-benefit retirement programs — like pensions — to defined-contribution programs — which are typically 401(k) savings programs. And, of course, some companies offer no retirement benefits at all.
In fact, only about 72 percent of private industry workers have access to an employer-provided retirement plan, according to the Bureau of Labor Statistics.
Of that:
- 70 percent have access only to 401(k) type of plans.
- 14 percent have access only to pension programs.
And even if workers have access to an employer retirement program, only about 73 percent on average take advantage of it — meaning more than a quarter of eligible workers leave the benefit on the table.
That helps feed a growing problem. Consider the following:
- The exact estimates can vary, but most surveys indicate that nearly half of all working-age families had no retirement savings.
- The Federal Reserve, in its most recent survey of consumer data, said that American families had median retirement savings of roughly $87,000.
- And various surveys by banks and financial institutions put average estimates wider still, from as little as $37,000 to upwards of $200,000 with variations for age and other factors.
Those are estimates for only dedicated, tax-advantaged retirement accounts, like 401(k)s and individual retirement accounts.
So, the broad takeaway is that one leg of the retirement stool — dedicated retirement savings programs like pensions and 401(k)s — is wobbly for many families.
Could personal savings and Social Security help stabilize the retirement picture?
Another wobbly stool leg: Personal savings
Personal saving for the American population as a whole is not stellar.
- About 37 percent of working adults would not be able to cover a $400 emergency expense, according to the Federal Reserve.
- Various surveys also portray a dim picture of American savings overall. For instance, one found that one in five people have less than $100 in their bank account. Another revealed that over a third of the population have less than $500 saved.
The takeaway is that for many people personal savings are unlikely to supplement retirement income in a significant way.
The third leg: Social Security
And Social Security is unlikely to fill the gap.
- The estimated average monthly benefit in 2026 for what the Social Security Administration describes as "all retired workers" is $2,081.
- The maximum monthly Social Security benefit at full retirement age is $4,152 for 2026.
However, the maximum allowable benefit amount is only payable to those who had the maximum taxable earnings for at least 35 working years. So, depending on when someone retired and what he or she made, the benefit could be considerably less. (Learn more: Filing for Social Security benefits)
Also, there is some concern about the future of Social Security. Under current government funding it is projected to only pay full benefits until the early-2030s. So, a revamp of the program may be coming in the next few years and it could include a reduction in benefits paid out or a limitation on who can qualify for Social Security. (Learn more: Preparing for the Social Security funding dilemma)
The takeaway is that Social Security is unlikely to meet someone’s full retirement income needs.
The retirement stool vs. what you need
Generally, financial experts suggest that you need about 75 percent to 80 percent of your pre-retirement income coming in to maintain your standard of living. To generate that kind of income through personal savings, pensions (if you have one), and investments, you typically need to have at least 6 to 8 times your annual salary saved up.
So, someone making $75,000 a year would need a nest egg of about $450,000 to $600,000 — much more than even the most positive estimates above.
And some financial experts would argue that you may need even more, depending on the age you are when you retire, the type of investments in your retirement portfolio, and your lifestyle.
For instance, a common rule of thumb is that you should only withdraw about 4 percent of your retirement savings in the year you retire, adjusting each year thereafter to account for inflation. With savings of $600,000, that would amount to $24,000 a year, or $2,000 a month. But many people have living expenses well above that.
Additionally, people are living longer. Indeed, a child born today can expect to live to 79 years old, according to the Centers for Disease Control and Prevention. Such longevity gains mean that retirement savings need to stretch out longer. And with longevity will likely come increased health care costs, adding more financial strain. (Related: How to plan for health care costs in retirement)
What is being done to help
All of which makes for a sobering retirement picture for many people. And they know it.
Indeed, only about a third of pre-retirees believe their retirement savings plan is on track, according to the previously mentioned Fed survey.
There have been relatively recent moves by the government to address the overall problem.
- Legislation was passed to open the door to retirement saving for a greater number of workers by requiring more companies to offer retirement programs and automatic enrollment.
- The age when people are required to tap their retirement savings was pushed back, which allows those savings to potentially deliver tax-deferred growth for longer. Additionally incentives have been created to encourage people to work longer and use catch-up savings strategies to make up for any savings shortfall.
- More companies (over 90 percent according to one survey) are offering financial wellness programs. And participation in such programs typically leads to better preparation by workers for retirement.
- The financial sector is sharpening its focus on product innovations in protected lifetime income solutions, specifically annuities. And, owing to the previously mentioned legislative changes, annuities may start to become more accessible through retirement plans.
“Annuities offer a way to establish an income stream in retirement,” said Jon Preston, CFP ®, a financial professional with Commonwealth Financial Group in Needham, Massachusetts. “While every situation is different, many annuities offer steady, reliable income that provides peace of mind for older Americans.1 And annuities come in many flavors, which means they can help meet a variety of goals. A qualified financial professional can help explain if an annuity is the right choice given a client’s goals, risk tolerance, and timeline.” (Related: 5 reasons why you may need an annuity)
What you can do now
Beyond these overall developments are moves individuals can take in the face of the retirement savings crunch.
The most obvious, of course, is to save.
“The art of retirement is to start saving as young as possible, so you give yourself the best opportunity to have consistent funds when there is no more income being produced by an occupation,” said Jason Applebaum, a financial professional with Coastal Wealth in West Palm Beach, Florida.
But even those not starting out their savings program young can still make progress by setting up a disciplined budget and looking at catch-up options available in retirement savings programs.
Those on the cusp of retirement or already in it may have other options to generate additional income as well by tapping into their home equity or being strategic with their Social Security benefits claiming strategy. (Related: Retirement savings catch up: 3 moves)
Ideally, a combination of these type of moves supplemented by financial vehicles like annuities could offer many people a way to a better retirement than what their savings math currently looks like. A financial professional can help sort out the options for trying to overcome a retirement savings shortfall.
Conclusion
Obviously, there is still a long way to go to make the nation’s overall retirement numbers add up. But the growing financial awareness among consumers and efforts by the industry to develop innovative answers are important first steps. The key is keeping the momentum moving forward.
______
Frequently Asked Questions about retirement savings shortfalls
Q. What is the three-legged retirement stool?
A. The three-legged retirement stool is a model that describes the three traditional pillars of retirement income: a pension or employer-sponsored retirement plan like a 401(k), personal savings, and Social Security. The idea is that all three legs work together to support a stable retirement — but for many Americans today, one or more of those legs has become wobbly.
Q. How can I boost my retirement savings if I'm starting late?
A. Starting late doesn't mean all is lost — catch-up contributions, disciplined budgeting, delaying Social Security to increase your benefit, and tapping home equity through a reverse mortgage are all options worth exploring. Working with a financial professional to map out a realistic plan can help you make the most of the time you have.
Q. Can an annuity help close a retirement income gap?
A. Yes — an annuity is a financial product issued by an insurance company that can convert a lump sum of savings into a guaranteed monthly income stream, either for a set period or for life, helping address the risk of outliving your money. Annuities come in many forms and work best as part of a broader retirement strategy; a financial professional can help determine if one fits your situation.
___________
Discover more from MassMutual…
Does an annuity fit your retirement goals?
Taking the long view in planning for retirement
This article was originally published in June 2018. It has been updated.
______________________________
