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Alicia Munnell, Ph.D., Center for Retirement Research, Boston College

Millions of Americans are adopting frugality as a hedge against their withering bank accounts.   But for those entering retirement, the careful stretching of a dollar can’t replenish what has been lost from retirement savings.  Alicia Munnell points out the problems with current retirement plans and what people can do to improve their financial situation in retirement.  This is an edited transcript of an interview conducted on February 10, 2009.

Even though Social Security is available at age 62, it may not be in your best interest to take early retirement.

Our estimate has always been that people need to work approximately four more years than they are currently doing.  At age 62, benefits are reduced. They’re lower than you would get at the so-called “normal” retirement age, which is getting older. People need to work longer if they’re going to have enough money in retirement.  When you use age 62 for a retirement target, you’re thinking of working for about 40 years and then you’re going to live for another 20 years on the assets that you accumulated during that 40-year work life; the arithmetic doesn’t work out.

Working longer is the best hedge against running out of money in retirement.

I think the most important thing you can do, if you have a job, is do everything in your power to keep that job because working longer is just a powerful antidote to this decimation of your account.  One, it will shorten the period in which you have to support yourself, just fewer years of retirement. It’ll give you some time for these assets to possibly bounce back.  It also avoids taking early Social Security benefits.  The difference between taking your benefits at age 62 and taking your benefits at age 70 is enormous.  If you take them at 70, they’re 75 percent larger then if you take them at 62. And this Social Security income is just a wonderful form of income.  It is indexed for inflation and it goes on for as long as you live.  And that’s just a kind of income that you really can’t buy easily in the private sector, so working longer allows you to get as much of that kind of income as you can.

Older workers are already staying on the job longer.

We’ve been following the employment statistics for the past year and it’s really extraordinary. We were looking at the employment rate, which is just the number of people employed compared to the whole population.  If you look at people under age 55, the employment rate has gone way down. People have dropped out of the labor force and their unemployment rate is way up.  If you look at the employment rate of people age 55 and over, their employment rate is higher today than it was at the peak of the last expansion. So there is a greater percentage of older people working than there was before this whole financial crisis started.

401(k) plans are another important part of a retirement plan, but they aren’t a guarantee for financial security in later years.

Increasingly, the only thing that people are going to have is 401(k) plans and 401(k) plans were never designed for that purpose.  They were designed as supplements.  They were designed for people who already had old-fashioned defined benefit plans and these were an add-on.  These were so you could take a trip to Paris if you saved a bit more.

So all the characteristics of 401(k) plans that make them inappropriate for their current use were perfectly reasonable when they were a supplement because what they do is leave all the decisions up to the individual.  The individual has to decide whether or not to join the plan.  The individual has to decide how much to contribute.  The individual has to decide how to allocate those contributions between stocks and bonds.  The individual has to decide what to do with the money when he moves from one job to the next.  The individual has to decide how much to hold in company stock and then once the individual gets to retirement, the individual is going to have to figure out how to take his $100,000, or however much is in the plan, and spread that over his retirement period, which is an unknown length.  And so there are just lots of challenges.

In addition to all these challenges that we’ve been worrying about for the last 10 years, with 401(k) plans we’ve had the market crisis and that has shown how vulnerable people are to financial risk.  Basically, equity values are down at least 40 percent.  People from ages 55 to 65 held two-thirds of their asset balances in equities; multiply that out and there’s a 30 percent decline.

Employer-sponsored benefit plans are covering fewer employees and will soon be a thing of the past.

The first important thing to realize is that only half the people have any benefit plan, at any moment in time.  If you take a snapshot at any moment in time, only half of workers receive anything from their employer, either the old fashioned defined benefit plan where you get an income for life, or the new 401(k) plans.  The second thing is, we have this huge shift in the nature of coverage that people had in the old days.  The old days aren’t that old; in the early ’80s, virtually everybody who had an employee-sponsored plan was covered by a defined benefit plan.  Nowadays, most people who have an employer-sponsored plan are covered by the 401(k) plan.  My view is that the traditional plan is basically on its way out. If you’re talking about private-sector defined benefit plans, they have been just diminishing in importance over the last 20 years in a dramatic way and after the last perfect storm around the year 2000, a lot of them were frozen and shut down.  I think right now you’re going to see many more employers freeze their benefits or terminate the plans.  So my view is that these plans aren’t so likely to be modified as they are to basically just peter out.

Social Security will cover less of a retiree’s financial needs in the future.

Social Security is going to provide less in the future than it does today, relative to earnings, for two reasons.  One: the normal retirement age, the age at which you get full benefits, is moving from 65; it has already moved to 66 and is going to go to 67. So for any given retirement age, people are going to get less.  Two: Social Security benefits are taxed under the personal income tax, which means that more of this money is going to be called back for people because, essentially, in the personal income tax code, there are thresholds.  You are not taxed on your benefits if your benefits are under this threshold.  You are taxed only if they’re over this threshold and this threshold isn’t indexed for inflation or wage growth or anything.  So as you have this overall increase in the level of wages over time, just more and more people are going to be above it. So the increase in the normal retirement age and the increased taxation are really going to mean that people are going to end up with relatively less.  In addition, Medicare premiums are taken out of Social Security benefits before the check goes in the mail.  So you add that to the mix and people are just not going to feel like they’ve gotten as much and that’s true; they’re not going to get as much from Social Security.

If you receive a lump-sum retirement payout, think carefully about how to use it.  A large amount of cash looks impressive, but it may not be enough to cover a long lifetime.

There is this issue of being fooled by a big pile of cash.    To the average person, $100,000 sounds like an enormous sum.  Yet when you turn it into a stream of income, it is not that much.  People need a substantial chunk of assets to supplement Social Security so that they can keep the same lifestyle that they had before they retired.

Reverse mortgages (low-interest loans that use a home’s equity as collateral) may become more commonplace as retiree assets get squeezed.

We’ve had the bursting of the housing bubble.  So if people thought during those years that their house was going to bail them out, it’s no longer the answer.  I think that people are going to have to turn to their house as part of the way to finance their retirement after they stop working.  I know that the idea of reverse mortgages right now isn’t really the most popular notion in the world, but this idea whereby people sort of promise their house to the bank and then the bank gives them a check for the rest of their life, may have its advantages.  However, right now these reverse mortgage instruments are clunky.  They have high administrative costs.  They’re difficult to understand.  They’ve been mis-sold.  They’re probably not a panacea, but I do think that people are going to need access to their home equity as a way of supporting themselves in the future.




Hi Alicia,

This is problem is not confined to America, but is a world wide issue. Many businesses and even government employers are moving away from defined benefits schemes because of the funding costs. The owners of account based pensions plans without longevity insurance face the very real risk of running out of their own funds in the last years of retirement.

I believe the the Corporation for Enterprise Development with its Assets Learning Conference for 2010 is heading in the right direction. However, reinventing retirement for baby boomers so that they can freelance their working lifetime acquired skills by becoming self employed needs more attention and encouragement. This could extend to micro businesses, but their is a risk with putting too much capital on the line even if franchising.

Having said the above, it naturally follows that public policy will need to change to facilitate and encourage people to generate some inconme in retirement and delay or slow the drawdown on their own funds. To do this it is essential that Lifestyle Planning Software becomes publicly available on government websites so that people can readily see what the results will be on the longevity of their funds if they were to work part time being self employed.

Having had a 30% drop in the asset value backing my own account based pension, I reduced the drawdown on my pension and borrowed against an equity based loan until the asset value recovered. It takes little imagination to realize that some attention need to be given to how investment risk is managed, especially for homeowners. I can imagine that financial planners professional magazines will now be discussing traditional portfolio construction because they know that this is right.

Jack Taggerty


[...] Alicia Munnell, Ph.D., Center for Retirement Research, Boston … Munnell, Director of the Center for Retirement Research at Boston College, explains why future retirees will be … [...]

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