Can I Still Retire?

The Social Security Act of 1935 heralded the start of a golden age of retirement for senior citizens

Since then, seniors have supported themselves using a three-legged retirement income stool consisting of Social Security, pensions and savings. Instead of working until they died, they could now enjoy gardening, golfing and other leisure activities during their golden years.

Unfortunately, all three legs of this retirement income stool are under assault, and the future of retirement itself is in jeopardy. Many people will be unable to retire. It is helpful to understand the forces behind this assault, and how individuals can combat them to assure their golden years.

When the Social Security Act passed in 1935, it was intended to provide a basic level of monthly income to workers and their families once the workers reached old age, became disabled, or died.

Social Security was a great deal for older workers. For example, the first person to collect Social Security benefits was a woman in Vermont named Ida Fuller. Ms. Fuller paid a total of $44 in Social Security taxes. She then collected a total of $20,993 in Social Security benefits before her death.

This great deal was possible because there were many more workers paying Social Security taxes than retirees receiving benefits. For example, in 1950, there were still 16 workers for each retiree. Currently, there are three workers per retiree. By 2030, there will be only two workers per retiree.

As a result of this demographic shift, the Social Security Administration projects that it will only be able to pay currently scheduled Social Security benefits until about 2037. After that, the amount of taxes being paid into the system will be sufficient to pay only about 76% of scheduled benefits.

Thus, Social Security is under assault by demographic forces along with the inertia of Congress to make changes necessary to insure the program's solvency after 2037. If Congress continues to do nothing, it is foreseeable that benefits will be decreased to only 76% of scheduled benefits by 2037.

Alternatively--and more likely--Congress will eventually make adjustments to Social Security in order to address its solvency. These adjustments may include raising the full retirement age, decreasing the scheduled benefits, increasing Social Security taxes, changing the inflation adjustment formula in a way that will result in decreased future benefits, or some combination of these adjustments.

Whatever Congress does, the demographic forces suggest future retirees will receive lower benefits than they are currently scheduled to receive. People planning their future retirement should take into account the real possibility that their benefits will be cut by about 24% from what's been promised.

There is little individuals can do about the structure of Social Security. However, there are steps individuals can take to maximize their future Social Security benefits. First, individuals can review their Social Security earnings history to insure they are being properly credited for their earnings. Second, individuals can delay the start of their Social Security benefits from age 62 until closer to age 70 in order to maximize their monthly benefits. Third, married couples can select the optimum strategy when deciding when each of them should retire and start claiming Social Security benefits.

Defined benefit pensions pay retired workers a defined monthly amount for life. The amount of the payment is typically determined by a formula based on the worker's average earnings over a period of time and the number of years the worker was employed by the company or government entity.

As recently as 1985, 90 percent of Fortune 1000 companies offered its employees a defined benefit pension plan. That percentage has since fallen sharply. In 2011, only 14% of large companies offered such plans. In 2012, the percentage was only 11%. Thus, defined benefit pensions have almost disappeared for private sector workers (although many public sector workers still enjoy them).

A major reason for the sharp decline of defined benefit pension plans was the introduction of defined contribution retirement plans such as 401K plans for private sector workers and 403B plans for public sector employees. In defined contribution plans, the worker and sometimes his employer make defined contributions into the plan, and the contributions are then invested. When the worker retires, his monthly payments depend on the contributions made and the investment performance.

Unfortunately, defined contribution retirement plans have been a failure for many workers. There are several reasons for this. First, contributions are voluntary, and many employees do not plan wisely for the future. Second, employees often do not have the financial knowledge to make sound choices. Third, 401K and 403B plans often have high fees that eat into investment returns. Thus, the reality is that defined contribution plans have not made up for the disappearance of defined benefit plans.

There are steps individuals can take to combat the assault on their pensions. First, some individuals can choose to take a government job with a defined benefit pension plan rather than a private sector job without such a plan. While government employees used to receive lower pay than private sector employees as a tradeoff for better benefits, this is no longer the case for many occupations. Second, individuals need to overcome inertia by enrolling in their employers' defined contribution plans, and need to make substantial contributions. Recent changes which allow for automatic enrollment and increasing contribution rates are helping to combat this inertia. Third, individuals need to take the initiative to learn about finances and investments so they can make sound choices in their retirement plans. Many retirement plan administrators are offering educational material to help their customers learn more. Fourth, individuals should pressure their employers to work with financial management companies which charge reasonably low fees on their retirement investments. Financial statements will soon include more information on fees to help individuals more clearly see what they are paying.

The pending insolvency of the Social Security program and the disappearance of traditional pension plans have made it more important for workers to ramp up their personal savings to help prepare for retirement. Unfortunately, the statistics show that many workers have little or no savings.

For example, a recent survey by the Employee Benefit Research Institute found that 30% of workers have less than $1000 in savings and investments. The same survey also found 60% of households have less than $25,000 in savings and investments, excluding their homes and any defined benefit plans. Clearly, these 60% of workers do not have nearly enough savings set aside for retirement.

A major force behind the assault on savings has been the Great Recession and its lingering impact on jobs. The unemployment rate has been above 7% since December 2008, and reached as high as 10%. There are also millions of underemployed workers, including part-timers who would like to work full time, and college-educated workers working in jobs which do not require a college degree.

Another major force behind the assault on savings has been the anemic performance of the financial markets. Between the technology bust, housing bust, Great Recession, and European debt crisis, the stock market has barely budged over the last 12 years. This anemic performance has made a mockery of the often-cited statistic that stocks appreciate at a real rate of 7% over the long term.

There are steps individuals can take to combat the assault on savings. The most important is to simply save more by spending less. While many people think its essential to own the latest iPhone, spending thousands of dollars on the latest "must have" devices makes it very difficult to save. Individuals can also boost their savings by learning about investing so they can grow their money. Another step individuals can take to boost their savings is to continuously learn about new subjects and retrain themselves so they are in a good position to adapt to changing employment needs.

Despite the assaults on Social Security, pensions and savings, it will still be possible for people to retire in the future. For many people, reaching that dream will require learning more about investing, making short-term sacrifices to save more money, continuously learning throughout their working lives, and possibly working longer than previously thought necessary.