Over the last several weeks I have been discussing with my readers the many challenges facing pre-retirees as they look toward retirement. You might be an existing senior and feel comfortable with your own financial future, but what about your children? I speak with dozens of seniors each week in my educational seminars and others sessions. Many express concern regarding their children’s financial preparedness while others speak seemingly confident regarding their children’s success.
I am here to raise a warning voice. No matter your perception, I would suggest that most of your children are in trouble with respect to retirement, especially if they are working in the private sector. Research indicators suggest most pre-retirees are headed for a retirement train wreck. You might think because they have a good job they are safe. Think again! Most are not aware of the predicament that awaits them in retirement. This is because they either are not saving enough or do not understand the mechanics of retirement income streams. Honestly, unless they have a Defined Benefit Pension Plan, most will likely experience significant economic challenges in retirement.
Let me review several challenges pre-retirees face. Traditionally, Social Security, Defined Benefit Pension Plans and private savings comprised the historical retirement three-legged stool. Over the years the stability of these legs has weakened. We all know that the health of Social Security is not good. We don’t know what changes lie in store, but most are confident that Social Security will play a much smaller factor as a percentage of one’s future retirement income.
There has been a serious shift over the last 30+ years away from Defined Benefit Pension Plans to Defined Contribution Plans (401k’s, 403b’s, etc…). This has been substantively true in the private sector. This shift transferred the responsibility and risk for plan accumulation and distribution from the employer to the employee. This has all happened with very little employee awareness or education. When Defined Benefit Pension Plans went away, a very important element called actuarial science disappeared. The absence of actuarial science means that the wonder of mortality credits, like life income guarantee options, became nonexistent.
Defined Contribution Plans exclude this important financial power and thus fall short of being able to produce the level of increased guaranteed income experienced in Defined Benefit Plans. Defined Contribution Plans are left to the interest rate/rate of return financial power alone. This design creates a host of problems waiting to plague future seniors. Examples include withdrawal rate risk and the problem of sequencing of returns in a fluctuating interest rate environment. The best research today suggests a retiree should not take more than 3.5% from his or her portfolio each year. Some research suggests a mere 2.8%! Otherwise, there is a strong probability he or she will run out of money.
This 3.5% income rule creates another pre-retiree challenge as it will be very difficult to accumulate sufficient assets to enjoy a “happily ever after” retirement. For example, a $1,000,000 nest egg will only yield a paltry $35,000 of annual retirement income! This income is woefully short of most expectations.
Think of your children. Do they have $1,000,000 saved? Rodney Brooks in a USA Today article (2/13/2014) stated that Fidelity Investments, the nation’s largest 401(k) provider, noted that the average 401k balance for pre-retirees 55 and older was only $165,200. “Houston, we have a problem!”
Even if your children have $500,000 saved, this will only generate about $1,500 per month given the 3.5% withdrawal rule. Add Social Security to this and they will still be forced to live on a fraction of what they are used to earning. And what about extended life expectancy and the threat of inflation? Most pre-retirees are not aware of this reality, which is why you need to alert them. Help them understand the need to develop a more robust retirement income planning strategy!
Fortunately, there are proven strategies that can combat withdrawal rate risk, mitigate return sequencing problems and restore actuarial science to a pre-retiree’s retirement game plan. If they take immediate action, couples in their 40’s and 50’s can dramatically change the financial trajectory of their retirement income, but they must act.
Consider these questions. What if retiree could take a 7-13% income rate from their retirement assets without the threat of running out of money? In effect this would significantly increase their retirement income. What if this could be done on a guaranteed basis? Is this possible?
This can be done, but requires retirees to get off withdrawal rate curves on the downside of the retirement mountain. This is accomplished by positioning assets more efficiently in pre-retirement with a separate uncorrelated asset. When working in proper concert with existing retirement assets this uncorrelated asset can accomplish all the aforementioned objectives.
What is this uncorrelated asset and how can it significantly improve retirement income? Stay tuned for next week’s article where I unveil this effective tool.