Rethinking Today's Retirement
Baby Boomers have been revolutionizing the world at every junction, and retirement looks to be no exception. It is estimated that 10,000 boomers will reach retirement age each day for the next decade, changing the face of companies and retirement at the same time.
One of the challenges leading the way, is the road ahead is not always clear. Today’s retirees are seeing the downside of that when it comes to funding retirements, carrying heavy debt loads and what the “Golden Years” will look like.
Changes in Retirement Structure
Previous generations enjoyed defined benefit retirement plans that were managed by the employer. This meant that as long as you worked for the same company throughout your career, you would qualify for a pension. The pension, combined with social security benefits, would fund a comfortable retirement. You were able to retire at the age of 65 with a comparable income that would maintain your standard of living. Retirement was generally for a decade or less due to lower life expectancies.
Today the picture looks very different. There are three primary catalysts that have resulted in a high percentage of Boomers being more unprepared than previous generations. These include living longer, the elimination of pensions and the birth of 401Ks as the primary retirement funding vehicle, and easier access to credit and debt.
Life Expectancy Has Increased Dramatically
Those turning 65 today can expect to live 20 or more years in retirement. When you have a work career of 40 to 45 years, it is much harder to save for 20 plus years of retirement. The percentage of income that must be set aside during the working years is much higher today than it was a generation ago. Life expectancy is likely to rise even higher as advances in technology find cures for disease. This blessing of longevity also comes with the price of higher healthcare costs in retirement that must be factored into retirement needs.
Elderly parents are less likely to live with adult children than has been the custom in previous generations. This creates higher costs for retirees with regard to housing and living expenses. Add additional healthcare costs that might include senior home care costs or nursing home care, depending on your health. Children are more likely to live farther away and today both spouses are often employed outside the home. This limits the families’ ability to step in and cover ongoing senior care needs to reduce costs.
Statistically speaking, a couple turning 65 today has a 73% chance that at least one person will live to be 85 and a 47% chance that one will live to be 90. Combine this with an annual declining savings rate and you have a recipe for underfunded retirement accounts.
Extinction of Pensions
Currently only 20% of private sector jobs offer a pension and that number is declining. Pensions are considered as defined benefit plans and are 100% funded by the employer. When an employee has a pension, they do not have to be disciplined with the income received because the employer is setting aside money for retirement. Companies liked pensions because it was a significant motivator to retain employees, even if you didn’t like your job.
Today, layoffs are common and the security of working for one company throughout your career is almost unheard of. This transition to employee funded retirement accounts began in 1978 with the creation of the 401K, which has changed the employer-employee relationship. Today around 50% of companies offer a 401K plan and the employee is responsible for funding that plan to pay for their own retirement. This is referred to as a defined contribution plan, because your retirement income is dependent on your contributions.
It was not until 1982 that major corporations like Johnson and Johnson, PepsiCo, and Honeywell began to offer 401K’s as part of their benefit packages to employees. Other companies joined the ranks over the coming decades and today it is a common workplace benefit, with employer matching contributions to motivate employees to contribute. Those without access to a workplace 401K have the ability to open an IRA (Individual retirement accounts) that offers similar tax benefits to a 401K.
This change in retirement structure has shifted the risk from the employer to the employee. Now an employee can take their retirement with them when they switch jobs, and can often contribute to an IRA in addition to their workplace plan. The challenge with this model is that it requires the employee to be disciplined enough to invest in the 401K or IRA. To have enough investment knowledge to select appropriate funds, and to leave it alone until retirement age arrives. Failure to be successful in this venture will leave you short of funds when retirement rolls around. Many companies have created automatic enrollments into 401K plans which is hoped will reduce these shortfalls.
Increased Access to Credit
In 1989 the FICO Credit Score was introduced and has become a standard for measuring risk among lenders. Companies (and the government) learned that businesses and the economy grow faster if customers have an easier time getting loans. You can then buy products immediately and upgrade your devices without having to save and wait. With new cars, phones, fridges and toasters coming out each year, companies need to sell these new products in favor of the older ones the consumer already owns. This practice drives our economy and as a result we consume more than any other economy in the world.
Low interest rates have spurred refinances that extended mortgages and encouraged families to “trade up” to bigger and larger homes with higher mortgages later in life. The result is that today 30% of retirees are carrying mortgage debt and 21% over the age of 75 are still making a house payment.
Higher credit card debt has also factored in because they are based almost entirely on stated income and credit score. If you have good credit you could wind up with $50,000 or more in available credit. Now average debt balances for those over 65 have grown from negligible to over $6,000. Add student loan debt and seniors are retiring with more debt than any previous generation.
Conclusion
There has been a high price to pay for these social and economic changes for the upcoming retiring class. Loose credit policies have created a multi-trillion dollar financial services industry on the backs of every day consumers that are lured into the marketing of easy money. Consumers often only consider the monthly payment, rather than the total costs of debt resulting in higher debt costs and lower disposable income. These spending practices have caught up with those entering retirement as they begin to face reduced income and outstanding obligations for yesterday’s purchases.
Baby Boomers are the first generation with huge numbers of retirees lacking the necessary funds for secure “Golden Years”. Boomers are the first to convert from employer funded plans to employee funded accounts. It is clear, work needs to be done to better prepare consumers for the transition into retirement. A successful transition will require new levels of creativity and ingenuity for which Baby Boomers are famous.