Based on the Federal Reserve’s 2013 Survey of Consumer Finances the Center updated the NRRI results (the entire article is a very good read).

from the NRRI report.

The lower the risk number in the chart the better, so things have not been going well since the 1990s for those in the USA saving for retirement.

As the report discusses their are significant issues with retirement planning that defy easy prediction; this makes things even more challenging for those saving for retirement. The report discusses the difficulty placed on retirees by the Fed’s extremely low interest rate policy (a policy that provides billions each year to too-big-too-fail banks – hardly the reward that should be provided for bringing the world to economic calamity but never-the-less that transfer of wealth from retirees to too-big-to-fail banks is the policy the Fed has chosen).

That exacerbates the problems of too little savings during the working career for those in the USA. The continued evidence is that those in the USA continue to spend too much today and save too little. Also you have to expect the Fed and politicians will continue to make policy that favors their friends at too-big-fail banks and hedge funds and the like. You can’t expect them to behave differently than they have been the last 50 years. That means the likely actions by the government to take from median income people to aid the richest 1% (such as bailing out the bankers with super low interest rate policies and continue to subsidize losses and privatize their winning bets) will continue. You need to have extra savings to support those policies. Of course we could change to do things differently but there is no realistic evidence of any move to do so. Retirement planning needs to be based on evidence, not hopes about how things should be.

Related: How Much of Current Income to Save for Retirement – Save What You Can, Increase Savings as You Can Do So – Don’t Expect to Spend Over 4% of Your Retirement Investment Assets Annually – Retirement Planning: Looking at Assets (2012) – How Much Will I Need to Save for Retirement? (2009)

The correct decision depends on your personal financial situation and your life expectancy. The social security payment increases are based on life expectancy for the entire population but if your life expectancy is significantly different that can change what option makes sense for you. If you live a short time you won’t make up for missing payments (the time while you delayed taking payments) with the increased monthly payment amount.

The “normal social security retirement age” is set in law and depends on when you were born. If you were born prior to 1938 it is 65 and if you are born after 1959 it is 67 (in between those dates it slowly increases. Those born in 1959 will reach the normal social security retirement age of 67 in 2026.

The social security retirement age has fallen far behind demographic trends – which is why social security deductions are so large today (it used to be social security payments for the vast majority of people did not last long at all – they died fairly quickly, that is no longer the case). The way to cope with this is either delay the retirement ago or increase the deductions. The USA has primarily increased the deductions, with a tiny adjustment of the retirement age (increasing it only 2 years over several decades). We would be better off if they moved back the normal retirement age at least another 3 to 5 years (for the payment portion – given the broken health care system in the USA retaining medicare ages as they are is wise).

In the case of early retirement, a benefit is reduced 5/9 of one percent for each month (6.7% annually) before normal retirement age, up to 36 months. If the number of months exceeds 36, then the benefit is further reduced 5/12 of one percent per month (5% annually).

For delaying your payments after you have reached normal social security retirement age increases payments by 8% annually (there were lower amounts earlier but for people deciding today that is the figure to use).

Lets take a quick look at a simple example:

Social security increases the monthly payment each year by the calculated inflation rate – I am going to ignore that in the example (to make my life easier).

Lets say your normal retirement age is 65 and your calculated monthly payment was $1,000. If you start collecting at age 65, after 13 years you have received $156,000. If you delayed for 2 years and started collecting when you were 67 after 11 years of payments (so to the same age of 78) you have received $153,965 (and your monthly payment each month is 16% higher than under the original scenario – so the longer you live the more you make).

So in this example it takes a bit over 13 years to break even for delaying by 2 years (while in reality thing are a bit more complicated this is a decent estimate). The life expectancy of for a man in the USA at age 65 is 19 years and for a woman is 21 years. So on average people will make a great deal more by delaying the start of social security payments, given the current rules (Congress can change the rules so this may change in the future). If someone is sickly and unlikely to live to the standard life expectancy that may mean delaying the start of payments is not a wise move.

One of the great benefits of delaying the payments is that the higher payments until death addresses a big risk in retirement planning – outliving your savings. Since you may have hundreds of more dollars every month for decades that decreases the amount you have to dip into your retirement principle. Since we don’t know how long we will live, a higher monthly annuity payment will provide the most benefit at the time when you face the largest risk for retirement planning, that of outliving your savings. It provides a bit of insurance against outliving your savings – or at least pushes the date at which that happens further into the future.

Can you pass a Social Security test?

Related: How Much of Current Income to Save for Retirement – Top Nations for Retirement Security of Their Citizens (USA is 19th) – Save What You Can, Increase Savings as You Can Do So – 401(k)s are a Great Way to Save for Retirement – Social Security (USA) Disability Insurance – Our Only Hope: Retiring Later

Take this 8 question social security quiz to test out your knowledge.

Macroeconomic Determinants of Retirement Timing

The paper doesn’t really focus much on what I would find interesting about the details of how we are (or mainly, how we are not) adjusting to make partial retirement fit better in our organization (the paper is focused on a different topic). The paper does provide some interesting details about the changes with retirement currently.

Related: Career Flexibility – 67 Is The New 55 – Retirement Delayed, Working Longer

It seems to me more gradual retirement makes a huge amount of sense (for society, individuals and our economy). That model is available to people, for example those that can work as consultants (and some others) but we would benefit from more options.

Why do we have to start work at 22 (or 18 or 26 or whenever) and then work 40 or so straight years and then retire? Why not gap years (or sabbaticals)? Also why can’t we just go part time if we want.

The broken health care system in the USA really causes problems with options (being so tightly tied to full time work). But I have convinced employers to let me go part-time (while working in orgs that essentially have 0 part time workers). And I am now basically on gap year(s)/sabbatical now. It can be done, but it certainly isn’t encouraged. You have to go against the flow and if you worry about being a conventional hire you may be nervous.

Related: Working Less: Better Lives and Less Unemployment – Why don’t we take five years out of retirement and spread them throughout your working life? – Retiring Overseas is an Appealing Option for Some Retirees – Living in Malaysia as an Expat – 67 Is The New 55

The United States of America ranks 19th worldwide in the retirement security of its citizens, according to a new Natixis Global Retirement Index. The findings suggest that Americans will need to pick up a bigger share of their retirement costs – especially as the number of retirees grows and the government’s ability to
support them fades. The gauges how well retired citizens live in 150 nations, based on measures of health, material well-being, finances and other factors.

Top Countries for Retirees

• 1 – Norway
• 2 – Switzerland
• 3 – Luxembourg
• 6 – Finland
• 9 – Germany
• 10 – France
• 11 – Australia
• 13 – Canada
• 15 – Japan
• 19 – USA
• 20 – United Kingdom

Western European nations – backed by robust health care and retiree social programs – dominate the top of the rankings, taking the first 10 spots, including Sweden, Austria, Netherlands and Denmark. The USA finished ahead of the United Kingdom, but trailed the Czech Republic and Slovakia.

Globally, the number of people aged 65 or older is on track to triple by 2050. By that time, the ratio of the working-age population to those over 65 in the USA is expected to drop from 5-to-1 to 2.8-to-1. The USA actually does much better demographically (not aging as quickly) as other rich countries mainly due to immigration. Slowing immigration going forward would make this problem worse (and does now for countries like Japan that have very restrictive immigration policies).

The economic downturn has taken a major toll on retirement savings. According to a recent report by the U.S. Senate Committee on Health, Education, Labor and Pensions, the country is facing a retirement savings deficit of $6.6 trillion, or nearly $57,000 per household. As a result, 53% of American workers 30 and older are on a path that will leave them unprepared for retirement, up significantly from 38% in 2011.

On another blog I recently wrote about another study looking at the Best Countries to Retirement Too: Ecuador, Panama, Malaysia. The study in the case was looking not at the overall state of retirees that worked in the country (as the study discussed in this post did) but instead where expat retirees find good options (which stretch limited retirement savings along with other benefits to retirees).

See the full press release.

Related: Top Stock Market Capitalization by Country from 1990 to 2010 – Easiest Countries in Which to Operate a Businesses: Singapore, Hong Kong, New Zealand, USA – Largest Nuclear Power Generation Countries from 1985-2010 – Leading countries for Economic Freedom: Hong Kong, Singapore, New Zealand, Switzerland – Countries with the Top Manufacturing Production

How Much to Save for Retirement is a very good report by the Boston College center for retirement research. They look at the percent of income replacement social security (for those in the USA) provides. This amount varies greatly depending on your income and retirement (date you start drawing social security payments).

Low earners ($20,000) that retire at 65 have 49% of income replaced by social security. Waiting only 2 years, to 67, the replacement amount increases to 55%. For medium earners ($50,000) 36% and 41% of income is replaced. And for high earners ($90,000) 30% an 34%.

Starting savings early make a huge difference. Starting retirement savings at age 25 requires about 1/3 the percentage of income be saved as starting at 45. So you can save for example 7% from age 25 to 70 or 18% from age 45 to 70. Retiring at 62 versus 70 also carries a cost of about 3 times as great savings required each year. So retiring at 62 would require an impossible 65% if you didn’t start saving until 45. But these numbers are affected by many things (the higher your income the less social security helps so the higher percentages you need to save and many other factors play a role).

Starting to save early is a huge key. Delaying retirement makes a big difference but it is not nearly as much in your control. You can plan on doing that but need to understand that you cannot assume you will get to set the date (either because finding a job you can do and pays what you wish is not easy or you are not healthy enough to work full time).

If you don’t have social security (those outside the USA – some countries have their versions but some don’t offer anything) you need to save more. A good strategy is to start saving for retirement in your twenties. As you get raises increase your percentage. So if you started at 6% (maybe 4% from you and a 2% match, but in any event 6% total) each time you get a raise increase your percentage 100 basis points (1 percentage point).

If you started at 27 at 6% and got a raise each year for 9 years you would then be at 15% by age 36. Then you could start looking at how you were going and make some guesstimates about the future. Maybe you could stabilize at 15% or maybe you could keep increasing the amount. If you can save more early (start at 8% or increase by 150 or 200% basis points a year) that is even better. Building up savings early provides a cushion for coping with negative shocks (being unemployed for a year, losing your job and having to take a new job earning 25% less, very bad decade of investing returns, etc.).

Investing wisely makes a big difference also. The key for retirement savings is safety first, especially as you move closer to retirement. But you need to think of investment safety as an overall portfolio. The safest portfolio is well balanced not a portfolio consisting of just an investment people think of as safe by itself.

Related: Retirement Planning, Investing Asset Considerations – Saving for Retirement Must Be a Personal Finance Priority – Investment Risk Matters Most as Part of a Portfolio, Rather than in Isolation

You can find yourself with pile of money without saving; if you win the lottery or inherit a few million from your rich relative via some tax dodge scheme like generation skipping trusts or charitable remainder trusts.

But the rest of us just have to do a pretty simple thing: save money. Then, keep saving money and invest that money sensibly. The key is saving money. The next key is not taking foolish risks. Getting fantastic returns is exciting but is not likely and the focus should be on lowering risk until you have enough savings to take risks with a portion of the portfolio.

My favorite tips along these lines are:

• spend less than you make
• save some of every raise you get
• save 10-15% of income for retirement
• add to any retirement account with employer matching (where say they add $500 for every $1,000 you put into your 401(k)

Spending less than you make and building up your long term savings puts you in the strongest personal finance position. These things matter much more than making a huge salary or getting fantastic investing returns some year. Avoiding risky investments is wise, and sure making great returns helps a great deal, but really just saving and investing in a boring manner puts you in great shape in the long run. Many of those making huge salaries are in atrocious personal financial shape.

Another way you can boost savings is to do so when you pay off a monthly bill. So when I paid off my car loan I just kept saving the old payment. Then I was able to buy my new car with the cash I saved in advance when I was ready for a new car.

Many people seem to fret about how to get great returns or figuring out exactly what they need to save when they should be fretting about saving money. Yes exactly how much you need to save for retirement is hard to judge. Start saving 10-15% and when you are 45, having saved for 20 years, you can get an idea of what adjustments to make. If you don’t want to save 10-15% of your income for retirement at age 25, fine save what you can and just increase that amount with each raise you get.

Jim Blankenship’s post, Let’s Increase America’s Savings Rate in November!, asks for recomendations for increasing the saving rate by 100 basis points (for example, increasing your savings from 8% of your income to 9%). Saving some of your next raise is my favorite practice to succeed in this area.

Related: Smart practices to protect you personal financial well being – Saving for Retirement Has to be a Priority – Don’t Expect to Spend Over 4% of Your Retirement Investment Assets Annually – Easy budgeting

Of course the details are much much more complicated. But without understanding any of the details you can do what is the minimum you need to do – save 10% for retirement of all your income. See my retirement investing related posts for more details. Only if you actually understand all the details and have a good explanation for exactly why your financial situation allows less than 10% of income to be saved for retirement every year after age 25 should feel comfortable doing so.

There is value in the simple rules, when you know they are vast oversimplifications. I am amazed how many professionals don’t understand how oversimplified the rules of thumb are.

Here is one thing I see ignored nearly universally. I am sure some professions don’t but most do. If you have retirement assest such as a pension or social security (something that functions as an annuity, or an actually annuity) that is often a hugely important part of your retirement portfolio. Yet many don’t consider this when setting asset allocations in retirement. That is a mistake, in my opinion.

A reliable annuity is most like a bond (for asset allocation purposes). Lets look at an example for if you have $1,500 a month from a pension or social security and $500,000 in other financial assets. $1,500 * 12 gives $18,000 in annual income.

To get $18,000 in income from an bond/CD… yielding 3% you need $600,000. That means, at 3%, $600,000 yields $18,000 a year.

Ignoring this financial asset worth the equivalent of $600,000 when considering how to invest you $500,000 is a big mistake. Granted, I believe the advice is often too biased toward bonds in the first place (so reducing that allocation sounds good to me). To me it doesn’t make sense to invest that $500,000 the same way as someone else that didn’t have that $18,000 annuity is a mistake.

I also don’t think it makes sense to just say well I have $1,100,000 and I want to be %50 in bonds and 50% in stocks so I have “$600,000 in bonds now” (not really after all…) so the $500,000 should all be in stocks. Ignoring the annuity value is a mistake but I don’t think it is as simple as just treating it as though it were the equivalent amount actually invested.

Related: Immediate Annuities – Managing Retirement Investment Risks – How to Protect Your Financial Health – Many Retirees Face Prospect of Outliving Savings

There are many other factors that need to be considered to determine the right allocation. But I would be much happier saying ok we have $600,000 of equivalent assets to start with now we have $500,000 – lets go to $350,000 in stocks, $50,000 in cash and $100,000 in dividend stocks (in todays market – as a alternative to bonds). I wouldn’t mind having the $100,000 in bonds in another market.

I could also see having less in stocks for other reason (based on the many other aspects of the portfolio and personal financial situation). But don’t just ignore what level of annuity income is part of the financial portfolio.

Those paying attention will note that interest rates have a great affect on the equivalent bond amount. If rates were 5% the equivalent amount would be $360,000. This huge difference in “bond value” is one reason why bonds are so risky as an investment now. Rates increasing from incredibly low level lik 2 or 3% will drastically reduce the value of those assets. Owning assets that drastically decrease is not wise.

This view is oversimplified too. If you owned bonds with a short duration (say 3 years) you would not experience a loss of $240,000. That is a topic for another post. Basically the example is only looking at income replacement not capital – which doesn’t give a complete picture at all. The basic point to remember here, about bonds, is that long term bonds are very dangerous when interest rates are low. The idea that bonds are safe is misleading. As part of a portfolio that view can make sense. Calling them safe, in isolation, is misleading.

This is likely one of the top 5 most important things to know about saving for retirement (and just 10% of the population got the answer right). You need to know that you can safely spend 5%, or likely less, of your investment assets safely in retirement (without dramatically eating into your principle.

Chart showing retirement assets over time based on various spending levels, from the Merill Lynch paper.

The chart is actually quite good, the paper also includes another good example (which is helpful in showing how much things can be affected by somewhat small changes*). One piece of good news is they assume much larger expense rates than you need to experience if you choose well. They assume 1.3% in fees. You can reduce that by 100 basis points using Vanguard. They also have the portfolio split 50% in stocks (S&P 500) and 50% in bonds.

Several interesting points can be drawn from this data. One the real investment returns matter a great deal. A 4% withdrawal rate worked until the global credit crisis killed investment returns at which time the sustainability of that rate disappeared. A 5% withdrawal rate lasted nearly 30 years (but you can’t count on that at all, it depends on what happens with you investment returns).

Related: What Investing Return Projections to Use In Planning for Retirement – How Much Will I Need to Save for Retirement? – Saving for Retirement

An interesting tidbit from the paper: A 65-year-old woman has a 62% chance of living past 85; for a 65-year-old couple, the chance of at least one spouse living past 95 is 31%.

When planning for retirement there are many unknowns. One thing to remember is you can’t count on working until your planned retirement date. Health complications can force you to retire early. Also economic or business conditions may force you to do so. Perhaps you can find another job, maybe not. Even if you do, it may be at a much lower salary.

Another paper: New World, New Rules (pdf) also has some interesting material. They do push some high revenue items (hedge funds, private equity…) for them, but as long as you can sensibly separate advice from sales pitches it is worth reading.

Another interesting tidbit from the paper: in 2011, 40% of the profits for the companies in the S&P 500 came from outside the USA. The idea of allocating portions of your portfolio to USA stock and foreign stocks is fairly largely confused by this. Much of your USA stock portfolio is very global already.

Another thing to consider is it is very wise to adjust your withdrawal rate based on investment conditions. So while you can’t expect to withdrawal over 4% every year if you have several good investing years that would allow you to take some extra money as long as you willing to take under 4% if you have a couple bad years.

* I do have a quibble with the way they discuss retiring 2 years later having such an impact. And they are not the only ones that do this, it happens all the time. They assume both people retire with the same investment value. But that is an unreasonable assumption. The whole reason why retiring just before a huge market slump is so bad is your assets take a huge hit. Well if you are just 2 years from retirement when that huge decline takes place you are not going to be able to make up for it and retire with that same amount.

You would basically have the same big loss the person that retired 2 years earlier did, you just experience it before you retire. You may be able to pick up an extra $10,000 or something by saving more since you see the decline just before you retire but basically the comparison is not accurate (in the way they claim). The biggest thing that having the huge decline just before you retire would allow is delaying retirement a few years (that way you can save up more money but just as important you can reduce the expected years in retirement because you work a few more years).

The data would be better if some value were placed on defined benefit plans; currently it is a bit confusing how much they may help. But the $25,000 threshold is so low that no matter what being under that value is extremely bad news for anyone over 40. And failing to have saved over just $25,000 toward retirement is bad news for anyone over 30 without a defined benefit plan.

66% of workers say their family has retirement savings and 58% say they are currently saving for retirement. These results are fairly consistent over the last few decades (the current values are in the lower ranges of results).

Nearly everyone wishes they had more money. One way to act as though you have more than you do is to borrow and spend (which is normally unwise – it can make sense for a house and in limited amounts when you are first going out on your own). Another is to ignore long term needs and just live it up today. That is a very bad personal finance strategy but one many people follow. Saving for retirement is a personal finance requirement. If you can’t save for retirement given your current income and lifestyle you need to reduce your current spending to save or increase your income and then save for retirement.

A year or two of failing to do so is acceptable. Longer stretches add more and more risk to your personal financial situation. It may not be fun to accept the responsibilities of adulthood and plan for the long term. But failing to do so is a big mistake. Determining the perfect amount to save for retirement is complicated. A reasonable retirement saving plan is not.

Saving 10% of your gross income from the time you are 25 until 65 gives you a decent ballpark estimate. Then you can adjust even 5 or 10 years as you can look at your situation. It will likely take over 10% to put you in a lifestyle similar to the one you enjoy while working. But many factors are at play. To be safer saving at 12% could be wise. If you know you want to work less than 40 years saving more could be wise. If you have a defined benefit plan (rare now, but, for example police or fire personnel often still do you can save less but you must work until you gain those benefits or you will be in extremely bad shape.

IRAs, 401(k) and 403(b) plans are a great way to save for retirement (giving you tax deferral and Roth versions of those plans are even better – assuming tax rates rise).

Related: In the USA 43% Have Less Than $10,000 in Retirement Savings – Saving for Retirement