Retirement Income and Difficult Choices

A recent report by the US Government Accountability Office (GAO) to the Senate’s Special Committee on Aging is currently making headlines by pointing out the income difficulties that current and future retirees have. Not only do they have to ensure that they save enough in their pre-retirement years, but they must also juggle that savings pool and their expense levels throughout their retirement years so they do not outlive their assets. These difficult tasks must be performed in an era of financial market turbulence, spiraling growth in healthcare costs, and uncertainty about the future of Social Security and Medicare.

As the study points out, a husband and wife both aged 65 today have about a 47 percent chance of at least one of them living to age 90, and a 20 percent chance of one living to age 95. Yet, only six percent of those retirees participating in a defined contribution plan [such as a 401(k) or 403(b)] chose or purchased an annuity at retirement. Making matters worse, most of today’s retirees took social security benefits before their full retirement age, locking many of them in to substantially lower monthly payouts than if they had waited. The report states that by taking benefits on or before their 63rd birthday, almost 50 percent of beneficiaries born in 1943 passed up increases of at least 25-33 percent in monthly inflation-adjusted social security benefits that would have been available had they waited until their full retirement age to begin collecting. 

What policy recommendations does the report make? Unfortunately, as the report points out, there are no easy answers, or easy fixes, to the retirement income problem. Making annuities easier and cheaper was one suggested solution; another was promoting financial literacy so pre-retirees are more aware of the longevity and investment risks inherent in retirement.

What can you do to ensure you have enough income in your retirement years? Here are a few steps you can take, whether contemplating retirement or already retired:

1. Have a good idea what your retirement expenses are likely to be. This sounds simple, but in fact as a planner I can tell you that very few individuals have a clear grasp of what they are spending, and how they are spending it. Whether in retirement or merely contemplating it, take the time to study your expenses. Have a good understanding where your dollars are going, and where you can cut back if need be. Compare your anticipated retirement expenses with your projected retirement income before you retire — in fact, try living on that income for a few months to see how realistic it is given your projected spending levels. 
2. Consider delaying social security for as long as possible. Actuarially, the social security payment system is designed so that there should be no difference in the amount of benefits received if you live your projected lifespan, no matter when you begin taking benefits. However, as the GAO report points out, “equivalence” depends on current and projected interest, inflation and mortality rates. The study goes on to illustrate how early collectors lose out in today’s environment. And that’s assuming equivalent life spans. What if you live beyond the actuarially expected age? The difference in benefits received is even greater. For married couples, early social security usually means accepting a lower base for the surviving spouse’s future benefit as well. That said, if you’re in poor health, have no other income options, or limited personal savings, collecting early may make sense for you.
3. Save, save, save. The more income options you have, the better off you are. And having savings to supplement social security certainly gives you more flexibility. Strategies can be developed to withdraw savings at a sustainable rate to supplement social security or other pension income. Savings can also be taken as lump sum withdrawals to fund unexpected expenses. Invested in the right way, they can also be used as an inflation hedge for any fixed income payments that do not adjust with inflation. Also, consider using both pre-tax and post-tax savings vehicles. No one knows what taxes will be in the future, so having taxable and non-taxable buckets of money will provide more flexibility at retirement.
4. Do not rush out and buy an annuity. Yes, you read that correctly. Many of the headlines connected with this study summarize the findings in two words: Buy Annuities. In fact, the study does not say that at all. In discussing the recommendations given by experts in the industry, the GAO points out that for those in the highest quintile of wealth, resources are in all likelihood sufficient to go without an annuity, unless the household felt very strongly about their longevity risk. For those in the middle quintile without a defined benefit pension, the recommendation was to purchase an immediate, inflation-adjusted annuity with 100 percent survivorship with about half of their savings. Such a purchase would approximate a four percent withdrawal rate from savings. The remainder of their savings would be available to provide liquidity or to leave a bequest. Annuities were not recommended at all for those in the lowest wealth quintile.
   
   Annuities can be an effective tool when devising retirement income strategies. However, there are different types of annuities, and some are extremely complicated. It’s important that you understand the benefits as well as the disadvantages of the various types of annuities.  
5. Plan ahead for your retirement. The time to plan for your retirement is not the day you retire. Sure, sometimes retirement might be forced upon us by circumstances, but it’s really never too early to begin envisioning, or saving for, your retirement. If you’re a do-it-youself kind of person, visit various retirement advice websites, such as MyMoney.gov, a product of the US Financial Literacy and Education Commission. Your employer may also have resources available to you. You can also enlist the aid of a financial planner to help you create realistic retirement scenarios and strategies. 

For America’s Baby Boomer generation, retirement is no longer a prospect — those born at the leading edge of the boom in 1946 reach age 65 this year. The sooner you begin to plan, the better off you will be when it comes time to make these crucial decisions.

Securities and advisory services offered through the Strategic Financial Alliance Inc. (SFA), member FINRA/SIPC. Financial planning offered through Compass Wealth Management LLC.  FPA member Leslie Beck, CFP®, MBA, is a registered representative and investment advisor representative of SFA, which is otherwise unaffiliated with Compass Wealth Management.