My children work and save with defined contribution plans. Even considering an employer contribution of 6 percent and pretty decent salaries, how can they ever hope to save enough in future dollars to have a comfortable retirement? A 22-year-old worker has time on his side, but what if he is 40? What should workers be doing? —D.L., by email
A. I share your concern. A closer look at your figures helps explain why we're looking at an enormous problem. If you visit the immediateannuities.com website and plug in your age, gender and monthly pension income you'll find it would require a payment, today, of $1,541,976 to provide your defined benefit pension income. The value is lower than your estimate of $2.5 million because it is a lifetime annuity with income that ends when you do. It has no estate value. If you wanted to safely draw $8,100 a month from a portfolio you had built in a 401(k) plan, the only "safe" way to do it would be to have a portfolio of about $2.5 million— unless you converted a portion of that $2.5 million into a life annuity.
The difference in the amounts required to produce the same income— a cool million dollars— is one of the reasons younger workers are facing a tougher retirement unless lifetime income investment vehicles improve substantially.
The reality is that those who retired over the last 20 years are citizens of the Golden Age of Retirement. Their children don’t have the same future. For the Golden Age of Retirement members, Social Security benefits have been generous. And a healthy proportion of workers enjoyed the kind of defined benefit pension that you have. Those two, combined with home ownership and equity build-up reduced the need for personal saving.
Our adult children are looking at something completely different: Few have defined benefit pensions and Washington is looking for someway to either increase contributions for Social Security or reduce future payments. Either way, Social Security won't be as good a deal for younger workers as it has been for recent retirees.
For better or worse, the likely answer is that younger workers will have to plan their futures differently than those recently retired. Here are some active steps that will help:
- Work longer.
- Delay taking Social Security benefits
- Radically reduce home size and value expectations
- Squeeze any and all unnecessary expenses out of your 401(k) plan and other savings.
Will that be enough? I really don't know.
Q. How can my wife and I calculate our effective Social Security wealth? —R.N., Nashville, TN
A. The calculation to arrive at this figure is pretty involved, but however it is done, having Social Security is like having a lot in savings. Also, it would differ for people who are single and people who are married. The highest value would be for a higher earning spouse in a couple because his or her benefit would go to the surviving spouse. As a result, the benefit would be paid out for the joint life expectancy of the couple. A joint life expectancy is quite a bit longer than the life expectancy of a single person. Someone would be getting the benefit for about 24 years rather than about 17 years.
For a married couple you can get a rough approximation by adding 40 to 50 percent to the cost of a Joint and 100 percent survivor life annuity. You can get a fixed payout life annuity estimate from the website immediateannuities.com. For a monthly income of $1,200— close to the average Social Security monthly benefit that would continue with 100 percent to the surviving spouse, you'd have to pay about $232,000 for the fixed payment. Providing inflation adjustment adds a bit more than 40 percent to the cost, bringing it to about $330,000. (The base figure here is for a couple where both spouses are 66 years old.)
Only a handful of insurance companies offer inflation adjusted life annuities. Vanguard offers them on its investing platform and you can enter information on the Vanguard website and get a quote from the insurance company Vanguard uses. Here are the names of five insurance companies that offer inflation adjusted annuities: American National, Integrity, Jackson National, Nationwide Financial and Pacific Life.
Scott Burns is the retired Chief Investment Officer of AssetBuilder, the creator of Couch Potato investing, and a personal finance columnist with decades of experience.