AM: Not really. Let’s first look at employer-sponsored pension plans. At any one moment in time, only half the people in the private work force has any pension plan like a defined benefit plan or a 401(k) plan. Pension coverage is much higher in the government sector where about 80 percent of workers have a plan. The percentage of workers with any type of employer-sponsored pension has not changed, but the nature of the plan has changed dramatically.
TL: How so?
AM: We’ve gone from defined benefit plans that pay a benefit for the life of the retired worker to 401(k) plans where people accumulate a sum of money and are responsible for providing their own retirement income.
TL: Is that a bad thing?
AM: Yes, that’s a bad thing. I’m not saying defined benefit plans were perfect. You had to stay in a job a long time to get the full benefit and that doesn’t happen anymore. But defined contribution plans have a serious drawback, in that they transfer all risk and responsibility to the individual workers, and people make mistakes every step along the way, from failing to participate in a plan, to investing unwisely, to trying to manage their own lump sum in retirement.
TL: Isn’t a 401 (k) plan a type of defined contribution arrangement?
AM: Yes. It is a unique kind of defined contribution plan that shifts risks and financial decisions from employers to employees. When they were first introduced, 401(k) plans were meant to supplement defined benefit plans. But now they’ve become the dominant kind of pension. They really were designed for another purpose.
TL: Why did defined benefit plans disappear?
AM: Before 2000, employers did not get rid of these plans, but they began to disappear because they were predominant in declining industries. After 2000, it was another story. It was the perfect storm—declining interest rates and a declining stock market and an increase in the plans’ liabilities that required employers to increase their contributions. Instead of doing that, they froze the plans, and that meant workers who had them could no longer accrue benefits. So 401(k) plans became the only type of plan for millions of workers.
TL: How much money on average do people have in 401(k) accounts?
AM: Before the crash it was about $70,000 for those nearing retirement.
TL: Is that a lot considering a family’s retirement needs?
AM: No. People who don’t have much money see it as a big pile, but as a stream of money to support you in retirement, it is not. When you convert that average amount into a joint-and-survivor annuity where the surviving spouse gets the full benefit when the other dies, it works out to about $338 a month for a sixty-five year-old man and a sixty-two year old wife who are annuitizing their 401(k) money today. If the man were to take a single life annuity, his widow would get nothing, but the monthly payment would be only $100 more, or $438. That, plus an average Social Security benefit of about $1100, wouldn’t give the family much to live on unless they had additional savings.
TL: What about savings outside a 401(k) plan? Do people have much?
AM: Most have virtually nothing—about $30,000 in financial assets on average for those Americans approaching retirement. Americans don’t save unless there are organized savings mechanisms. The only place they have money is in their house. A house is an extremely important financial asset for most middle-income families. We need to create more financial mechanisms that let people stay in their homes, like reverse mortgages, which let people live off the equity that has accumulated. Under a reverse mortgage, a homeowner borrows against his equity and receives money from a lender. Unlike a home equity loan, no loan payments or interest are due until the individual dies, moves out, or sells the house. When one of these events occurs, the borrower or his estate is responsible for repaying the loan in full.
TL: Are these very common?
AM: Only about two percent of people who can take them do. People who have finally paid down a mortgage are reluctant to take out another one. And the fees on these products tend to be high.
TL: How will continually rising health care costs affect families who may have too little retirement income?
AM: I hardly know what to think about medical costs that are projected to increase at enormously high rates each year. It’s not clear how people can protect themselves.
TL: It sounds like another perfect storm is brewing—lower Social Security replacement rates, no more defined benefit plans, and little cushion from 40l (k) plans. What should people do?