Failing to pay for the deferred costs of current expenditures gets all those practicing credit card budget thinking in trouble. That includes lots of individuals. But it also includes many governments. They pay huge rewards to special interests and act like they think the cost doesn’t exist. Only an extremely financially illiterate society could elect so many of these people. We have not learned that in the modern financial economies financial illiteracy is a huge societal problem (along with scientific illiteracy).
Padded Pensions Add to New York Fiscal Woes
Such poor financial management by public sector organization (California is horrible also) are causing huge damage to those living in such poorly managed states.
The use of public money for outsize retirement pay really stings when budgets don’t balance, teachers are being laid off, furloughs are being planned
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Roughly one of every 250 retired public workers in New York is collecting a six-figure pension, and that group is expected to grow rapidly in coming years, based on the number of highly paid people in the pipeline.
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Thirteen New York City police officers recently retired at age 40 with pensions above $100,000 a year; nine did so in their 30s.
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Before Yonkers adopted a richer pension formula for police in 2000, for instance, it was told the maximum cost would be $1.3 million a year. But instead, the yearly cost is now $3.75 million and rising. David Simpson, a spokesman for the mayor of Yonkers, said pension cost projections were “often lowballs,” so the city could get stuck. “Once you give something, you can’t take it away,” he said.
It isn’t complicated. So long as you elect people that are financial illiterate and only care about granting favors to special interests, not the consequences of doing so, you are setting yourself up for a great deal of pain once your credit card bill comes due.
Related: NY State Raises Pension Age to Save $48 Billion – Charge It to My Kids – Bogle on the Retirement Crisis – Politicians Again Raising Taxes On Your Children
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According to Sharpe, who is also the founder of Financial Engines, the typical 4% rule recommends that a retiree annually spend a fixed, real amount equal to 4% of his initial wealth, and rebalance the remainder of his money in a 60%-40% mix of stocks and bonds throughout a 30-year retirement period.
What’s more, he shows the price paid for funding what he calls “unspent surpluses and the overpayments made to purchase its spending policy.” According to Sharpe, a typical rule allocates 10%-20% of a retiree’s initial wealth to surpluses and an additional 2%-4% to overpayments.
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The only problem with what academia knows to be right and what’s practical in the field — even by Sharpe’s own admission — is this: “Many practical issues remain to be addressed before advisers can hope to create individualized retirement financial plans that maximize expected utility for investors with diverse circumstances, other sources of income, and preferences,” Sharpe wrote in his paper.
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Meanwhile, Stephen P. Utkus, a principal with the Vanguard Center for Retirement Research, agrees that the 4% rule is flawed. But he also notes, as did Sharpe, that there’s no practical mechanism to replace it with and that further research is required.
I think this is exactly right. The proper personal financial actions in this case are not easy. The 4% rule is far from perfect but it does give a general idea that is a decent quick snapshot. But you can’t rely on such a quick, overly simplified method. At the same time there are simple ideas that do work, such as saving money for retirement is necessary. The majority of people continue to fail to take the most basis steps to save money each year for retirement.
Related: Spending Guidelines in Retirement – How Much Will I Need to Save for Retirement? – Bogle on the Retirement Crisis
There are several personal finance basics that everyone must account for. Retirement requires the most planning and accumulating the largest amount of money. Luckily if you plan ahead you have a long time for compounding to work in your favor. Unfortunately most people continue to fail to make even the most minimal efforts to save for retirement: 43% have less than $10k for retirement
The percentage of workers who said they have less than $10,000 in savings grew to 43% in 2010, from 39% in 2009, according to the Employee Benefit Research Institute’s annual Retirement Confidence Survey. That excludes the value of primary homes and defined-benefit pension plans.
Fewer workers report that they and/or their spouse have saved for retirement (69%, down from 75% in 2009 and 72% in 2008. Moreover, fewer workers say that they and/or their spouse are currently saving for retirement (60%, down from 65 percent in 2009).
27% say they have less than $1,000 in savings (up from 20% in 2009).
46% report they and/or their spouse have tried to calculate how much money they will need to have saved for a comfortable retirement by the time they retire.
What is a very rough estimate of what you need? Well obviously factors like a pension, social security payments, age at retirement, home ownership, health insurance, marital status… make a huge difference in the total amount needed. But something in the neighborhood of 15-25 times your desired retirement income is in the ballpark of what most experts recommend. So if you want $50,000 in income you need $750,000 – $1,250,000. Obviously that is difficult to save over a short period of time. The key to saving for retirement is a consistent, long term saving program.
Related: Retirement Savings Survey Results (2007) – How Much Will I Need to Save for Retirement? – Personal Finance Basics: Long-term Care Insurance
There was a $1 trillion gap at the end of fiscal year 2008 between the $2.35 trillion states had set aside to pay for employees’ retirement benefits and the $3.35 trillion price tag of those promises, according to a new report released by the Pew Center on the States. The shortfall, which will have to be paid over the next 30 years by state and local governments, amounts to more than $8,800 for every household in the United States.
The figures detailed in Pew’s report, The Trillion Dollar Gap, include pension, health care and other non-pension benefits promised to both current and future retirees in states’ and participating localities’ public sector retirement systems.
Pew’s numbers likely underestimate the bill coming due because the most recent available data do not account for the second half of 2008, when states’ pension fund investments were particularly affected by the financial crisis. Additionally, most states’ accounting methods spread the investment declines over a period of time–meaning states will be dealing with their losses for several years.
“While the economic crisis and drop in investments helped create it, the trillion dollar gap is primarily the result of states’ inability to save for the future and manage the costs of their public sector retirement benefits,” said Susan Urahn, managing director, Pew Center on the States. “The growing bill coming due to states could have significant consequences for taxpayers—higher taxes, less money for public services and lower state bond ratings. States need to start exploring reforms.”
In fiscal year 2008, states’ pension plans had $2.8 trillion in long-term liabilities, with more than $2.3 trillion reserved to cover those costs. Overall, states’ pension systems were 84 percent funded—above the 80 percent funding level recommended by experts. Still, the unfunded portion–$452 billion–is substantial, and states’ performance is down slightly from an 85 percent combined funding level in fiscal year 2006. Pension liabilities have grown by $323 billion since 2006, outpacing asset growth by almost $87 billion.
Retiree health care and other non-pension benefits, such as life insurance, create another huge bill coming due: a $587 billion total liability to pay for current and future benefits, with only $32 billion–or just over 5 percent of the cost–funded as of fiscal year 2008. Half of the states account for 95 percent of the liability. Because of a 2004 Governmental Accounting Standards Board rule, the full range of non-pension liabilities was officially reported in fiscal year 2008 for the first time across all 50 states.
Many state and local governments continue to provide very large pay to state and local government employees and often use very generous retirement packages as a way of disguising the true cost of the pay packages they provide.
Related: NY State Raises Pension Age to Save $48 Billion – True Level of USA Federal Deficit – Charge It to My Kids – USA Federal Debt Now $516,348 Per Household – Politicians Again Raising Taxes On Your Children – Consumer Debt Reduced below $2.5 Trillion
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3 Nobel prize winning economists, Robert C. Merton, Robert Solow and Paul Samuelson, took questions about the impending retirement savings crisis from PBS NewsHour correspondent Paul Solman in October 2008. Paul Solman asked them about their personal portfolios in the clip shown above.
Robert Merton tells his portfolio portfolio is in a Global Index Fund, Treasury Inflation-Protected Securities, and one hedge fund. He said he had been invested in a TIAA commercial real estate fund until recently, but sold in early 2008 when he worried commercial real estate prices had increased too far. He also sold out his Municipal bond holdings.
Robert Solow says he has no idea of his portfolio.
Paul Samuelson declined to say. He did offer that timing is not something investors can successfully do. He stated that timing the selling of assets was not as difficult as timing when to get back in. And that markets move very quickly so you can miss out on big gains. 2009 provided a great example of this. Many people sold stocks in late 2008 and early 2009. And most did not get back in. In 2009 the S&P 500 was up 26%.
Related: Retirement Savings Allocation for 2010 – How Much Will I Need to Save for Retirement? – Gen X Retirement – Many Retirees Face Prospect of Outliving Savings
Retirement Benefits: What to Expect in 2010
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Higher Medicare Part B premiums for some. Most current Social Security recipients will continue to pay $96.40 each month for Medicare Part B medical insurance, the same amount as in 2009. But for new enrollees, Medicare Part B monthly premiums will be $110.50, a 15 percent increase from 2009 prices. Retirees with incomes greater than $85,000 ($170,000 for couples) also will pay higher premiums, ranging from $154.70 to $353.60 each month, depending on the income reported on their 2008 tax return.
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Among Fidelity-administered 401(k) plans, 27 percent of employers that cut contributions to employee retirement accounts have already resumed the match or plan to reinstate it next year. Another survey, by the Profit Sharing/401(k) Council of America, found that almost half (47 percent) of companies that suspended their employee match are planning to restore it within the first quarter of 2010.
Related: How Much Will I Need to Save for Retirement? – 401(k)s are a Great Way to Save for Retirement – Retirement Savings Survey Results
I adjusted my future retirement account 401(k) allocations today. I do not have as favorable an opinion of investing in the stock market today as I did a year ago. I would likely have allocated 20% to a money market fund except my 401(k) actually has two options – 1 paying 0.0% and the other paying -.02%.
They seem to believe they should make a significant profit while providing a horrible return (they are still taking over .5% of assets in fees – even though rates do not cover their fees). Those running funds have very little interest in providing value for 401(k) participants – they are mainly interested in raising fees (though supposedly they are suppose to be run by people with a fiduciary responsibility to the investors). Unfortunately most 401(k)s lock you away from the best options for an investor (such as Vanguard Funds).
My current allocation for future funds is 40% to USA stocks, 40% to Global stocks and 20% to inflation adjusted bonds. My current allocation in this retirement account is 10% real estate, 35% global stocks, 55% USA stocks. For all my retirement savings it is probably about 5% real estate, 35% global stocks, 5% money market, 55% USA stocks (which is a fairly aggressive mix).
As I have said many times I do not like bonds at this time. I don’t think the interest nearly justifies the risk of capital loss (due to inflation or interest rate risk). Inflation protected bonds are a much more acceptable option for someone that is worried about inflation (like I am over the next 10-20 years).
A number of the stock fund (even bond fund) options in my 401(k) have expense ratios above 1%. That is unacceptable. The average fees on the options I chose were .5%.
With my employee match I am adding over 10% of my income to my 401(k), which I think is a good aim for most everyone. Far too many people are unwilling to forgo luxuries to save appropriately for their retirement. This is a sign of financial illiteracy and an unwillingness to accept the responsibilities of modern life.
Related: Investing – My Thoughts at the End of 2009 – 401(k)s are a Great Way to Save for Retirement – Saving for Retirement – Managing Retirement Investment Risks
In December 2008 I decided to substantially increase my investments in the stock market. This turned out to be quite successful. As I said at the time, the economy continues to struggle and the prospects for 2009 did not look good. And I even guessed the stock market (in the USA) would be lower 12 months from now. But, I also said I was far from certain, in that guess and that I had been increasing my stock investment and would continue to do so.
At this time my retirement contributions are going 100% to stock investments (if I were close to retirement I would not do this). I am likely going to reduce the contributions going forward (maybe 75% stocks – 25% money market). Unfortunately my retirement fund does not have great alternatives – it has very good real estate options but I am not ready to start putting new funds there (though I likely will during 2010, at some point).
I did sell reduce my equity exposure in a retirement account that I am not adding to this month. It reduced my overall equity exposure of my portfolio by a couple percentage points, at most. It is still significantly higher than a year ago, due to the incredible gains for 2009 in my stock investments.
Last year I fully fund my Roth IRA, in January and bought Amazon (AMZN), Templeton Emerging Market Fund (EMF) and PetroChina (PTR). I will fully fund the Roth IRA in January again. I am leaning toward some combination of Templeton Emerging Market Fund (EMF), Vanguard Emerging Markets Stock (VWO), Toyota (TM) and maybe Danaher (DHR). I purchased all of those in my non-retirement account in 2009.
Investing well is not easy. Saving money is though, sometime people get these confused. You need to save money for retirement – aim for 10% of your income and invest that conservatively if you do not wish to focus on investing. I have no question fully funding your Roth IRA is a wise move for almost everyone. How to invest once you do that is a bit trickier but funding it is not a difficult question to answer. It was not easy to increase investments into stocks last year, when so many others were selling (and the press is full of stories reinforcing the bad news, bad prospects and risks). You can get great opportunities when others are panicking, but things do not always recovery so nicely.
What the next year holds, again for 2010, if very difficult to see. The economy looks to be in much better shape than a year ago. But it is far from strong. And the recovery in the stock market means the higher prices stocks command today leave more downside risk for stocks, if things do not go well. I am more concentrated in stocks now than I was a year ago, but I am not comfortable with that. I don’t see bonds, even short term bonds, as an acceptable alternative. The risks are not at all justified by the returns in my opinion. I am happy with my real estate investments and may even look to increase that area though I think it may be too early for commercial real estate. I think individual companies may well prosper even if the economy falters – such as Google, Amazon, Danaher, Toyota, Tesco (though Amazon’s price increases may already have more than accounted for this) – all of these are in my 12 stocks for 10 years portfolio.
Related: Save Some of Each Raise – It is Never to Late to Invest – Does a Declining Stock Market Worry You? – Uncertain Economic Times
N.Y. Raises Pension Requirements to Save $48 Billion
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For new workers, the bill raises the age for retirement without penalty to 62 from 55, imposes a 38 percent penalty on non-uniformed workers who retire before 62 and increases the minimum years of service to draw a pension to 10 from 5, according to Paterson’s office.
Overtime payments included in calculating pension benefits will be capped at $15,000 a year for civilian workers, and 15 percent of wages for police and firefighters.
Raising the retirement age from 55 to 62 (for new workers) is something that should have been done decades ago. 62 is too young for a full retirement age. If a country has the life expectancies we do they either need to have huge retirement savings (which for NY State would mean huge taxes to support that level of retirement savings) or live off the wealth saved in previous generations (or count on taxes of future generations).
Unfortunately for too long all of the USA we have chosen not to save for retirement when we work and then retire when we still have decades to live (on average). That is not sustainable. You can only add so much to the credit card (buy now let someone pay later strategy). Increasing from 55 to 62 is a good move. But it is too little and too late. More should be done.
Saving for retirement is not complicated. It is just that many people would rather speed money now and now save it. That is easy to understand but it is not helped if we make it sound like saving for retirement is hard. It takes some discipline. But certainly adults should be able to show some discipline. We have to stop acting like not saving for retirement is somehow acceptable. It is no more acceptable than those that had to store food for the winter a few hundred years ago deciding they would rather go swimming all summer and worry about the winter later.
And state governments should not provide out-sized retirement benefits which must be paid for by the taxpayers. 80 years ago maybe setting the retirement age at 55 made sense. It certainly did not for new workers in 1980 (or 1990 or 2000 at least now in 2009 they are making a move in the right direction).
Related: Working Longer and Delaying Retirement – Many Retirees Face Prospect of Outliving Savings – Pushing your financial problems into the future – Gen X Retirement
Wells Fargo is offering to donate $1 to Kiva for every person that completes a 7 question survey (no contact information is required) to get what they call a retirement security index. I did and there are 2 benefits to doing so yourself. First, most of us would benefit from more attention to our retirement planning. Second help out Kiva – which I have mentioned many time.
Now I think their questionnaire is far too simplistic but it is hard to get people to spend even 15 minutes looking at a saving plan for retirement. So I know they are trying to keep it very simple so people will complete it. That said, read our posts on retirement planning to lean more about planning for retirement. It is critical that you spend the time in your 20’s, 30’s and 40’s doing this or you are really going to have trouble making decent retirement plans.
Related: Add to Your 401(k) and IRA – Spending Guidelines in Retirement – Retirement Savings Survey Results – Personal Finance: Saving for Retirement