Ridiculous Retirement System: With a Vengeance

Various of our PF blogging friends have noted the dangerously low savings rates among middle- and working-class Americans, mostly by way of urging readers to set aside larger amounts in their 401(k) and other retirement accounts. Get Rich Slowly has suggested that a million dollars is not enough to support you in your retirement (in 20 years it’ll be worth all of $449,400 in today’s dollars) and that you should be investing between 4.2 and 5.7 percent of your income, depending on your age.

That is extremely low. I put 7% of my pay, matched by the Great Desert University for a total of 14%, into deferred savings, and I started that job with $250,000 in an IRA and another $80,000 in nondeferred brokerage accounts. I started that job 20 years ago. Today, laid off my job and essentially unemployable at age 67, I have just over half a million bucks. And that is nowhere near enough to live on through one’s dotage.

Economics professor Teresa Ghilarducci points out the fundamental problem: expecting everyone to set aside enough in self-directed, commercially operated savings funds to fund 20 or 30 years of unemployment (which is what “retirement” really is) has proven to be a massive failure. So much so that she brands it “ridiculous.” Our present 401(k)/403(b) retirement system, she observes, “simply defies human behavior. Basing a system on people’s voluntarily saving for 40 years and evaluating the relevant information for sound investment choices is like asking the family pet to dance on two legs…. This do-it-yourself pension system has failed. It has failed because it expects individuals without investment expertise to reap the same results as professional investors and money managers. What results would you expect if you were asked to pull your own teeth or do your own electrical wiring?”

The chickens, my friends, are flying home to roost as we speak. Most older workers cannot hold their jobs until they’re 70 (or older). The cold fact is, people over 50 have faster-growing rates of unemployment than any other group. And once you’re over about 45 in our youth-obsessed culture, you are going to have a very difficult time getting another job. If you’re 60 and older, forget it. The likelihood that you’ll land another job is almost nil, and if you do, it will be at an enormous cut in pay.

As Ghilarducci points out, “Almost half of middle-class workers, 49 percent, will be poor or near poor in retirement, living on a food budget of about $5 a day.”

Over at Wealth Pilgrim, Neal Frankl explains, with crystal clarity, why you will need about 20 times your present earnings to maintain your present lifestyle. It means that if you have an income of $50,000 today, your nest egg will have to amount to $1 million to support a middle-class lifestyle through the likely end of your life. That, my friends, is with a 5% average return on investment, which you may or may not achieve. “May not” is probably the operative term for funds managed by the do-it-yourselfer.

Using Neal’s rule of thumb—which adds up to the same ratio Ghilarducci cites, 20 times your present income(!)—to have a reasonable chance of maintaining a rather ordinary lifestyle through my dotage, I would have needed $1.2 million in investments when I was laid off at the virtually unemployable age of 64. That’s more than twice what I actually do have.

Neal’s calculation is a little more forgiving, because he asks you to figure what you will need to draw down from investments, which allows you to take into account details like Social Security, the amount of your revolving debt, whether your home is paid off, and whether you live in a high- or low-cost-of-living state. Simply divide the amount you will need by 5%, the projected rate of return on investments.

In my case, I need a bare minimum of $25,000 (a figure that grows with every tax increase, every utility increase, every auto and homeowner’s insurance increase, and every jump in food and gasoline prices). In theory, then, my half-million-dollar nest egg will support me. Just barely. Assuming Social Security continues for the rest of my life, something that is decidedly not a given.

The truth is, I really need more like $30,000 to $40,000 from investments, since that $25,000 allows for a lifestyle that we might call “pinched.” If I want to go out to eat more than once a month, might like to travel a bit, wish to wear clothes that don’t come from thrift stores, then I would need $600,000 to $800,000 in savings. And those savings would need to be intelligently invested.

Understand, $40,000 plus Social Security comes nowhere near what I was earning when my job came to an end. So under the best retirement scenario, which is impossible because I have nothing like enough to establish that scenario, I’m looking at a significantly diminished lifestyle. One, we might add, that will continue to shrink over time.

As Ghilarducci points out, a retirement “system” that is going to leave 75 percent of Americans in poverty when they hit old age is ridiculous: “failure is baked into the voluntary, self-directed, commercially run retirement plans system.” She suggests mandated, guaranteed retirement accounts, to be professionally managed and to pay out in annuities, on top of Social Security.

It’s a little late for those of us who have already been involuntarily retired or who are still working but don’t have a chance of setting aside 30% or more of gross income. But for the younger generations: something needs to be done, and soon. The coming “retirement crisis” is going to affect everyone. As I’ve pointed out myself, when Baby Boomers sink into poverty, their adult sons and daughters will be called upon to support them.

What we have here is a retirement system that’s ridiculous not only for the vast number of workers who are edging toward old age, but for everyone else, too.