Remember when your mom and dad decided to retire? It was a milestone in their life. Most likely there was a retirement party; they may have decided to buy an RV to travel the country, or maybe a winter retreat in Florida. It was a time for celebration since their house was paid off and they were certain of where their retirement income was coming from.
Our parents lived in the time that Social Security and Pensions could cover most of their cost of living, and the savings were there to enjoy life. Times have certainly changed over the past couple of decades. If you consider that half the Americans in this country have no retirement savings at all, this becomes an alarming situation.
The number one fear for retirees, even before death itself, is to run out of money and become a burden to their family. The traditional guaranteed pension benefit that would provide an income throughout retirement is shifting to defined contribution plans in the workforce. Many of us have already seen the discontinuation of the yearly pension increase, with an annual contribution to our 401(k) to replace it.
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What caused this to this happen?
Currently, there is a crisis occurring in most countries with what they call the ‘Pension Timebomb’. With the shifting in demographics, there are fewer workers contributing compared to the number of retirees. Lower birth rates and longer life spans have shifted so significantly that in 2016, the state pension programs reported a deficit of $1.4 trillion. When the state pension is underfunded, it will either be subsidized through state taxes or in some cases, the pension benefits will be reduced.
The Pension Benefit Guaranty Corporation (PBGC) was established in 1974 to help protect the private defined benefit pension plans from disruptions in payments of pension benefits to retirees. To date, PBGC has paid 4919 plans, $5.8 billion in benefits to 861,000 retirees. PBGC has projected there is a 99% likelihood they will be insolvent by 2026, increasing the urgency for change in the retirement programs in the United States.
The Social Security Administration released a bulletin in 2009 called The Disappearing Defined Benefit Pension and Its Potential Impact on the Retirement Incomes of Baby Boomers, addressing the concern of the long-term shift in guaranteed benefits. The contributing factor to this change was the Pension Protection Act of 2006, which has systematically shifted retirement income from guaranteed pension benefits to Defined Contribution plans, with the most popular done in the form of a 401(k).
The Pension Protection Act of 2006 was created to actually help prevent the employees and retirees from losing their retirement due to an underfunded or mismanaged pension. By transferring to the contribution plans, the responsibility of managing the investments and accumulating for retirement is passed to the employee.
With this change, the obligation of managing the retirement funds shifted from professional money managers to the individual. This created another issue when looking at the long-term stability of these accounts. Many have limited or even no knowledge of the best way to invest and manage investment accounts, with oftentimes employees make educated guesses on diversifying their 401(k) portfolios while employed.
To give stability to these long-term savings accounts, the creation of the target-date funds was established. These are the group of funds that employees commonly select in their 401(k) that systematically rebalance based off their timeline towards retirement and the risk tolerance selected. It made for managing their 401(k) savings safer and simple to implement, without having to monitor the market volatility.
Is this generation able to adapt?
As the Baby Boomers begin to retire, with the reduction in guaranteed pension benefits, managing the retirement income has become increasingly challenging. But if there is one guarantee we know for a fact about this generation, they are always up for the challenge.
Ironically, the Baby Boomers are often thought of as ‘Technophobic’, which is truly a misconception of the truth. This is the generation that has made the technological advancements where we are today. With the invention of the first computer system by IBM in the 1960s and the development of Microsoft and Apple throughout the 1970s and ‘80s, it was this generation in the workforce that created and began the expansion process of the entire technological landscape that we currently use today. In fact, with conventional banking, more than half of this generation is now making check deposits through their mobile app. They may not be as techy as the Millennials, but that would be a hard challenge to beat.
During the United States’ financial crisis of 2007, many Baby Boomers took significant losses to their portfolios and began to distrust the market, causing an exit from the traditional financial advisory industry, influencing many of them to begin doing their own research and asset management. For those that decided to step back into the market, there was a need to advance the technology behind online investing.
This resulted in the emergence of low-cost robo-advisory and self-directed investment accounts in the financial market. With the skills to manage their own funds and the desire to be in control of their assets, the emergence of a new industry was created to fulfill the needs of this generation, contradicting an impression that the Baby Boomer generation was unable to adapt to new ways of thinking.
In the Social Security’s evaluation of how this shift from pension to contribution plans would impact the viability of the Baby Boomer’s retirement income, there were significant times that the adjustment phase might have a negative impact on the retiree’s income. But with the issues facing the pension plan systems in the United States, for the long-term future of retirement income, a change in how retirement income is managed will have a positive impact on the retiree’s overall wellbeing.
Although it may seem that the professional money managers would be better equipped to manage the pensions and future obligations for retirees, it has been shown there is less likely for instability when the retirement savings are put in the individual’s hands and they used the right financial tools to manage the assets themselves or hire a financial professional to manage them for them.