A friend of mine retired last year, at age 62. I thought it was weird, so I asked him why. “The work environment has become unpleasant. I didn’t like the way I was being treated. I could work longer, but why bother if it isn’t appreciated? I’m healthy. I own my house. I have some savings. I could take Social Security. I can make old cars run. I live simply. I live very inexpensively. So why not quit? Why not do what I want?”
Like millions of others, he had faced a serious decision: work a bit longer, or retire now?
The conventional wisdom is quite clear on this question.
Forget retiring. Work away, you won’t regret it!
The CW has a lot to support it. By working longer, you can pay down debt, add more to savings and give existing investments another year of growth. And let’s not forget increasing your Social Security benefits. Who knows, if you’re one of the lucky ones in a pension plan, it will be larger, too. And, just to make the Inventory of Good Reasons complete, since your retirement will be a year shorter you won’t need as much money anyway.
So what’s not to like? The case is so strong that millions of people accept the work-longer idea without question.
Before going on, let me say that many people should accept the idea of working longer without question because they don’t have a choice. For millions of people, the question of retirement is like the old joke: “Yes, my retirement will be great, provided I die by Friday.” If you are in that boat, you know who you are.
But not everyone is in that boat. My friend wasn’t, although he has far less money than most of the readers who write to me. His decision made me wonder. What happens if we turn the question around? Does it pay to work? I mean, really, what will working another year do for you?
Answer: not so much.
Let’s start with some numbers and a broader example than a single guy who lives dirt-cheap. Suppose you are part of a two-earner household and you and your partner earn about $53,000 each for a total income of $106,000. That would make you average workers according to the Social Security Trustees, and you could expect, at 65, about $17,300 each in Social Security benefits, a total of $34,600.
According to Fidelity Investments, we should have saved about 10 years of income by age 67 and eight years of income by age 60. So lets’ assume our average workers have nine years of income in their retirement accounts, or about $900,000. (This makes them quite extraordinary, but that’s another column.)
What will an additional year of work do for them?
Well, it will increase their annual Social Security benefits by nearly 8 percent, or nearly $2,800. That’s nice.
It’s about the same for their savings. Even if they save 20 percent of their income, an additional $20,000 isn’t going to add much to their $900,000 nest egg. But let’s look on the bright side and assume that their savings earn 6 percent and grow by $54,000. This means their total savings will have grown by about $74,000 during their additional year of work. When they retire next year, they’ll be able to withdraw an additional $2,960 from their retirement funds if we assume a 4 percent withdrawal rate. That’s another income increase of about 8 percent.
Add it all up and an added year of work will increase their retirement income from $70,600 to about $76,360, a gain of $5,760, about 8 percent.
Was it worth it? Let’s see.
Together, they worked an additional 4,000 hours to enjoy a benefit of $5,760. So their benefit comes to $1.44 an hour, before income taxes. In the 15 percent tax bracket, the net spendable benefit would be $1.22 an hour.
Can you say small beer?
Of course, the benefit is for the rest of their lives, not just a year. But however you slice it, they have given up a year of retirement freedom for a relatively small increase in their income and security. Measured on the hedonic scale— the one that values the experience of the present much more than the unknown future— the conventional wisdom is dead wrong.
And my parsimonious friend? He’s livin’ the dream.