MONEY Pensions

What Retirees Need to Know about the New Federal Pension Rules

Only a small percentage of retirees are directly affected by the new rule. But future legislation may lead to more pension cutbacks.

The last-minute deal to allow retiree pension benefit cuts as part of the federal spending bill for 2015 passed by Congress last week has set off shock waves in the U.S. retirement system.

Buried in the $1.1 trillion “Cromnibus” legislation signed this week by President Barack Obama was a provision that aims to head off a looming implosion of multiemployer pension plans—traditional defined benefit plans jointly funded by groups of employers. The pension reforms affect only retirees in struggling multiemployer pension plans, but any retiree living on a defined benefit pension could rightly wonder: Am I next?

“Even people who aren’t impacted directly by this would have to ask themselves: If they’re doing that, what’s to stop them from doing it to me?” says Jeff Snyder, vice president of Cammack Retirement Group, a consulting and investment advisory firm that works with retirement plans.

The answer: plenty. Private sector pensions are governed by the Employee Retirement Income Security Act (ERISA), which prevents cuts for retirees in most cases. The new legislation doesn’t affect private sector workers in single-employer plans. Workers and retirees in public sector pension plans also are not affected by the law.

Here are answers to some of the key questions workers and retirees should be asking in the legislation’s wake.

Q: Cutting benefits for people who already are retired seems unfair. Why was this done?

A: Proponents argue it was better to preserve some pension benefit for workers in the most troubled plans rather than letting plans collapse. The multiemployer plans are backstopped by the Pension Benefit Guaranty Corp (PBGC), the federally sponsored agency that insures private sector pensions. The multiemployer fund was on track to run out of money within 10 years—a date that could be hastened if healthy companies withdraw from their plans. If the multiemployer backup system had been allowed to collapse, pensioners would have been left with no benefit.

Opponents, including AARP and the Pension Rights Center, argued that cutting benefits for current retirees was draconian and established a bad precedent.

Q: Who will be affected by the new law? If I have a traditional pension, should I worry?

A: Only pensioners in multiemployer plans are at risk, and even there, the risk is limited to retirees in “red zone” plans—those that are severely underfunded. Of the 10 million participants in multiemployer plans, perhaps 1 million will see some cuts. The new law also prohibits any cuts for beneficiaries over age 80, or who receive a disability pension.

Q: What will be the size of the cuts?

A: That is up to plan trustees. However, the maximum cuts permitted under the law are dramatic. Many retirees in these troubled plans were well-paid union workers who receive substantial pension benefits. For a retiree with 25 years of service and a $25,000 annual benefit, the maximum annual cut permitted under the law is $13,200, according to a cutback calculator at the Pension Rights Center’s website.

The cuts must be approved by a majority of all the active and retired workers in a plan (not just a majority of those who vote).

Q: How do I determine if I’m at risk?

A: Plan sponsors are required to send out an annual funding notice indicating the funding status of your program. Plans in the red zone must send workers a “critical status alert.” If you’re in doubt, Snyder suggests, “just call your retirement plan administrator,” Snyder says. “Simply ask, if you have cause for concern. Is your plan underfunded?”

The U.S. Department of Labor’s website maintains a list of plans on the critical list.

Q: How quickly would the cuts be made?

A: If a plan’s trustees decide to make cuts, a notice would be sent to workers. Snyder says implementation would take at least six months, and might require “a year or more.”

Q: Am I safe if I am in a single employer pension plan?

A: When the PBGC takes over a private sector single employer plan, about 85% of beneficiaries receive the full amount of their promised benefit. The maximum benefit paid by PBGC this year is $59,320.

Q: Does this law make it more likely that we’ll see efforts to cut other retiree benefits?

A: That will depend on the political climate in Washington, and in statehouses across the country. In a previous column I argued that the midterm elections results boost the odds of attacks on public sector pensions, Social Security and Medicare.

Sadly, the Cromnibus deal should serve as a warning that full pension benefits aren’t a sure thing anymore. So having a Plan B makes sense. “If you have a defined benefit pension, great,” Snyder says. “But you should still be putting money away to make sure you have something to rely on in the future.”

Read next: This Is the Toughest Threat to Boomers’ Retirement Plans

MONEY Social Security

The Right Way to Claim Social Security Widow’s Benefits

Ask the Expert Retirement illustration
Robert A. Di Ieso, Jr.

Q. I am 61 and was divorced from my husband two years ago after more than 16 years of marriage. He died a few months ago at 72 and had been receiving Social Security benefits of $1,663 a month. I am working part-time, earning $13,000 a year, and want to continue doing so. According to the Social Security calculator, my own retirement benefit would be $1,028 a month if I claim at age 62, $1,364 at age 66 (my full retirement age), or $1,800 at age 70. If I claim a (reduced) widow’s survivor benefit before age 66, I expect to receive $1,314 a month if I file now at age 61½ or $1,347 at age 62.

Can I apply just for my survivor’s benefits now, continue to work, apply for Medicare at age 65, and at age 70 file for my own benefits? Also, while receiving survivor’s benefits, would I need to apply for my own benefits at age 66 and suspend it until age 70; or can I continue to collect survivor’s benefits, with no need to apply and suspend at 66, and change to my own benefits at 70? — Elizabeth

A. This is an incredibly well-informed query, so, first off, kudos to Elizabeth for doing her homework and doing such a good job looking out for herself. The details she provides are essential for figuring out her best Social Security claiming choice.

The simple answer to her question—whether to claim survivor’s benefits now—is “Yes.” The reasons for this illustrate the complexity of individual retirement benefits, as well as the way benefits interact, which can increase or reduce your Social Security income. This is a key issue for women, who tend to outlive their spouses and file the lion’s share of survivor claims.

The rules for widow’s (or survivor’s) benefits are different from spousal benefits, which involve claims on a current or divorced spouse. Survivor’s benefits may be taken as early as age 60, while spousal benefits normally can’t begin until age 62. Both benefits are lowered if you claim early, but the percentage reductions differ. That’s because survivors can claim up to six years before reaching their full retirement age (FRA), which is 66 for current claimants, compared with just four years for early spousal claims.

Another key difference is that survivor benefits do not trigger deeming when taken prior to full retirement age, which can be a real headache. If you are eligible to file for a spousal benefit and do so before age 66, Social Security will deem you to be also filing for your own retirement benefit. It does not pay two benefits at the same time but will give you an amount roughly equal to the greater of the two benefits. Further, once your retirement benefit has been triggered early, it will be permanently reduced.

The good news is that deeming does not apply to survivor benefits. So Elizabeth can file for a widow’s benefit right away and not trigger a claim for her own retirement benefit. Because it’s likely her retirement benefit will be higher at age 70 than her widow’s benefit, she should plan on taking the widow’s benefit as soon as possible. At age 70, she can switch to her retirement benefit .

She is correct that she will be hit with an early filing reduction. But given the small increases she would receive if she waited, the benefit of deferring is outweighed by the gains of claiming now. That’s because she will get more years of benefits, so the cumulative amount of income will be greater.

The modest earnings she receives won’t be a factor either. “Since her earnings are below the 2014 annual earning limits, she could qualify for widows benefits beginning this month with no loss of benefits due to the earnings test,” says James Nesbitt, a Social Security claims representative for nearly 40 years who now provides benefits counseling for High Falls Advisors in Rochester, NY.

“Depending on her past work history, her continued contributions into the Social Security system by working may have the effect of increasing her monthly benefit amount,” he adds. “The online retirement calculator on Social Security’s website will allow for future earnings to be used in estimating benefits.”

Elizabeth should set up an appointment now at a local Social Security office in order to begin receiving benefits as soon as possible, Nesbitt adds. If she files for her survivor benefit before age 65, Social Security should automatically enroll her in Medicare.

Further, Nesbitt notes, the precise amount of her survivor’s benefit depends on when her late husband filed early for his retirement benefit. This, like much else about Social Security, can be very complicated. But if his $1,663 benefit was the result of an early retirement filing, her actual survivor’s benefit could end up being much higher than she estimates. She should review this possibility when she meets with the agency to file her claim.

Lastly, she should not file and suspend her own retirement benefit but simply collect her survivor’s benefit and then claim her own retirement benefit at age 70. “Once a retirement claim has been filed at 66, albeit suspended, the amount of the widow’s benefit will be calculated as if she is [also] receiving the retirement benefit,” Bennett notes. “A ‘file and suspend’ would reduce or possibly eliminate the widow’s benefit.”

Philip Moeller is an expert on retirement, aging, and health. His book, “Get What’s Yours: The Secrets to Maxing Out Your Social Security,” will be published in February by Simon & Schuster. Reach him at moeller.philip@gmail.com or @PhilMoeller on Twitter.

Read next: The Best Way to Tap Your IRA in Retirement

MONEY working in retirement

This Is the Toughest Threat to Boomers’ Retirement Plans

Most employers say they support older workers. But boomers don't see it, and age discrimination cases are on the rise.

As the oldest boomers begin to turn 70 in just over a year, an important workplace battleground already has been well defined: how to accommodate aging but productive workers who show few signs of calling it quits.

Millions of older workers want to stay on the job well past 65 or 68. Some are woefully under saved or need to keep their health insurance and must work; others cling to the identity their job gives them or see work as a way to remain vibrant and engaged. At some level, almost all of them worry about being pushed out.

Those worries are rooted in anecdotal evidence of workers past 50 being downsized out of jobs, but also in hard statistics. Age discrimination claims have been on the rise since 1997, when 15,785 reports were filed. Last year, 21,396 claims were recorded. Not every lawsuit is valid. But official claims represent only a fraction of incidents where older workers get pushed out, lawyers say.

One in five workers between 45 and 74 say they have been turned down for a job because of age, AARP reports. About one in 10 say they were passed up for a promotion, laid off or denied access to career development because of their age. Even those not held back professionally because of age may experience something called microaggressions, which are brief and frequent indignities launched their direction. Terms like “geezer” and “gramps” in the context of a work function “affect older workers” and erode self-esteem, write researchers at the Sloan Center.

These are serious issues in the context of a workforce where many don’t ever plan to retire. Some 65% of boomers plan to work past age 65, according new research from the Transamerica Center for Retirement Studies. Some 52% plan to keep working at least part-time after they retire. In a positive sign, 88% of employers say they support those who want to stay on the job past 65.

But talk is cheap, many boomers might say. In the Transamerica survey, just 73% of boomers said their employer supports working past 65. One way this skepticism seems justified: only 48% of employers say they have practices in place to enable older workers to shift from full-time to part-time work, and just 37% say they enable shifting to a new position that may be less stressful. Boomers say the numbers are even more dismal. Only 21% say their employer will enable them to shift to part-time work, and just 12% say their employer will facilitate a move to a position that is less stressful.

These findings seem at odds with employers’ general perceptions about how effective older workers are. According to the survey:

  • 87% believe their older workers are a valuable resource for training and mentoring
  • 86% believe their older workers are an important source of institutional knowledge
  • 82% believe their older workers bring more knowledge, wisdom, and life experience
  • Just 4% believe their older workers are less productive than their younger counterparts

The reality is that most of us will work longer. The Society of Actuaries recently updated its mortality tables and concluded that, for the first time, a newborn is expected to live past 90 and a 65-year-old today should make it to 86 (men) or 88 (women). The longevity revolution is changing everything about the way we approach retirement.

Employers need to embrace an older workforce by creating programs that let them phase into retirement while keeping some income and their healthcare, by offering better financial education and planning services, and by declaring an age-friendly atmosphere as part of their commitment to diversity.

For their part, employees must take steps to remain employable. Most are staying healthy (65%); many are focused on performing well (54%), and a good number are keeping job skills up to date (41%), Transamerica found. But painfully few are keeping up their professional network (16%), staying current on the job market (14%) or going back to school for retraining (5%). Both sides, it seems, could do better.

Read next: How Your Earnings Record Affects Your Social Security

MONEY retirement planning

What Scrooge Can Teach You About Retirement Planning

Scrooge in A Christmas Carol
Scrooge in "A Christmas Carol" © Walt Disney Co.—Courtesy Everett Collection

Sure, he was tight-fisted. But Scrooge's money habits are a useful model for reaching your retirement goals.

I can hear the cries of outrage already. How can A Christmas Carol‘s Scrooge, the character Charles Dickens described as tight-fisted, squeezing, wrenching, grasping, scraping, clutching and covetous, possibly be a paragon of retirement planning? Bah humbug! If anything, he’s a role model for how not to live one’s life!

And I agree, up to a point. But if you’re willing to overlook a few of his, shall we say, flaws, good old Scrooge also possessed some qualities that make him a pretty decent role model for achieving a secure and meaningful retirement. Here are three we may well to emulate, albeit in moderation, to improve our retirement outlook.

1. Scrooge had a phenomenal work ethic. When the novel opens, Scrooge is at work in his counting-house late in the afternoon on Christmas eve. He didn’t duck out early to do some last-minute shopping. He wasn’t posting Happy Holidays photos on Instagram. He was putting in a full day’s work.

Granted, in recent years millions of people who would like to do just that haven’t had the option. Perhaps the recent upbeat employment report signals a more vibrant jobs market ahead. But the fact remains that the commitment to work that Scrooge displays is crucial to a successful retirement for two reasons: you can’t build a nest egg without regular income; and the amount you earn and number of years on the job largely determine the size of a key source of retirement income: your Social Security benefit.

Note too that Scrooge was still working relatively late in life. Dickens doesn’t give Ebenezer’s age, but many people estimate he was in his late 50s or 60s, which is getting up there considering life expectancy in mid-19th century England was about 40. So we can take a cue from Scrooge on this score as well. For example, in their new book Falling Short: The Coming Retirement Crisis and What To Do About It, authors Alicia Munnell, Charles Ellis and Andrew Eschtruth point out that just a few extra years on the job can go a long way toward improving one’s retirement prospects. And if that doesn’t do the trick, you can always supplement your income by working in retirement.

2. The man was a prodigious saver. Scrooge definitely knew a thing or two about saving a buck. And he didn’t resort to gimmicks like apps that round up credit card purchases to the nearest dollar and deposit the difference in an investing account, giving you the impression you’re saving while encouraging spending. He did it the old-fashioned way by keeping his everyday living expenses down.

He went way, way too far, of course, what with living in the dark, keeping a very small fire and eating gruel from a saucepan. But he had the right idea—namely, if you live below your means by not splurging on over-the-top vacations, expensive cars and big houses with mortgage payments to match, you’ll have a better chance of saving the 15% a year that can lead to a comfy retirement. And while Dickens doesn’t get into Scrooge’s investing habits, my guess is that ol’ Ebenezer wouldn’t fall for pitches for dubious or expensive investments. I think he’d be an index-fund kinda guy who realizes that reducing investment fees boosts the size of your nest egg and the amount of income you can draw from it.

3. Scrooge (eventually) understood what really matters. This may very well be the most important lesson we can draw from Scrooge. Sure, it took visits from his dead business partner Marley and a few ghosts to transform him. But by the end of the novel, Scrooge has morphed from a pinched and selfish man into a generous and compassionate person who anonymously sends a turkey to the Cratchit home for Christmas dinner and becomes like a second father to Bob Cratchit’s son, Tiny Tim. In short, he realizes that wealth brings happiness only when we share it with our families and others in ways that improve all our lives.

So while it’s important to focus on making good financial decisions, we should never forget that retirement planning isn’t just about the bucks. Ultimately, it’s about creating a retirement lifestyle that has meaning and purpose as well as financial security.

So if your thoughts happen to stray to your retirement over this holiday season and you find yourself wondering how you might improve your planning, ask yourself WWSD—What Would Scrooge Do? Whether it’s the stingy Ebenezer or the more benevolent version, he just might provide the inspiration you need.

Walter Updegrave is the editor of RealDealRetirement.com. If you have a question on retirement or investing that you would like Walter to answer online, send it to him at walter@realdealretirement.com.

More from RealDealRetirement.com:

How To Invest In Today’s Topsy-Turvy Market—And In The Year Ahead

What’s Your “Magic” Retirement Number?

Does Uncle Sam Want To Contribute $2,000 Toward Your Retirement?

MONEY IRAs

The Best Way to Tap Your IRA In Retirement

Ask the Expert Retirement illustration
Robert A. Di Ieso, Jr.

Q: I am 72 years old and subject to mandatory IRA withdrawals. I don’t need all the money for my expenses. What should I do with the leftover money? Jay Kahn, Vienna, VA.

A: You’re in a fortunate position. While there is a real retirement savings crisis for many Americans, there are also people with individual retirement accounts (IRAs) like you who don’t need to tap their nest egg—at least not yet.

Nearly four out of every 10 U.S. households own an IRA, holding more than $5.7 trillion in these accounts, according to a study by the Investment Company Institute. At Vanguard, 20% of investors with an IRA who take a distribution after age 70 ½ put it into another taxable investment account with the company.

The government forces you to start withdrawing your IRA money when you turn 70½ because the IRS wants to collect the income taxes you’ve deferred on the contributions. You must take your first required minimum distribution (RMD) by April of the year after you turn 70½ and by December 31 for subsequent withdrawals.

But there’s no requirement to spend it, and many people like you want to continue to keep growing your money for the future. In that case you have several options, says Tom Mingone, founder and managing partner of Capital Management Group of New York.

First, look at your overall asset allocation and risk tolerance. Add the money to investments where you are underweight, Mingone advises. “You’ll get the most bang for your buck doing that with mutual funds or an exchange traded fund.“

For wealthier investors who are charitably inclined, Mingone recommends doing a direct rollover to a charity. The tax provision would allow you to avoid paying taxes on your RMD by moving it directly from your IRA to a charity. The tax provision expired last year but Congress has extended the rule through 2014 and President Obama is expected to sign it.

You can also gift the money. Putting it into a 529 plan for your grandchildren’s education allows it to grow tax free for many years. Another option is to establish an irrevocable life insurance trust and use the money to pay the premiums. With such a trust, the insurance proceeds won’t be considered part of your estate so your heirs don’t pay taxes on it. “It’s a tax-free, efficient way to leave more to your family,” Mingone says.

Stay away from immediate annuities though. “It’s not that I don’t believe in them, but when you’re already into your 70s, the risk you’ll outlive your capital is diminished,” says Mingone. You’ll be locking in a chunk of money at today’s low interest rates and there’s a shorter period of time to collect. “It’s not a good tradeoff for guaranteed income,” says Mingone.

Beyond investing the extra cash, consider just spending it. Some retirees are reluctant to spend the money they’ve saved for retirement out of fear of running out later on. With retirements that can last 30 years or more, it’s a legitimate worry. “Believe it or not, some people have a hard time spending it down,” says Mingone. But failure to enjoy your hard-earned savings, especially while you are still young enough and in good health to use it, can be a sad outcome too.

If you’ve met all your other financial goals, have some fun. “There’s something to be said for knocking things off the bucket list and enjoying spending your money,” says Mingone.

Update: This story was changed to reflect the Senate passing a bill to extend the IRS rule allowing the direct rollover of an IRA’s required minimum distribution to a charity through 2014.

Do you have a personal finance question for our experts? Write to AskTheExpert@moneymail.com

Read next: How Your Earnings Record Affects Your Social Security

MONEY retirement income

Junk Bond Selloff Is a Warning for Retirees Who Reached for Yield

Risky assets have paid off well the past few years. But tremors in the junk bond market signal time for a gut check.

In July, Federal Reserve Chief Janet Yellen warned of the “stretched” values of junk bonds. Few seemed to care, and among the unconcerned were millions of retirees who had reached for these bonds’ higher yields in order to maintain their lifestyle. Now, a reckoning may be at hand.

Yellen’s mid-summer warning on asset prices was reminiscent of the former Fed chief Alan Greenspan’s “irrational exuberance” comment regarding stock prices in 1996. Few listened then, either. It turns out that the Greenspan warning was way early. But the dotcom collapse hit later with devastating results.

Yellen’s remarks may be timelier. High-risk, high-yield corporate bond prices have been falling amid the strongest selling in 18 months. Since June, investors have pulled $22 billion out of the market and prices have dropped 8%. The pace of the decline has quickened since October.

The junk bond selloff began in the energy sector, where oil prices recently hitting a five-year low set off alarms about the future profits—and ability to make bond payments—of some energy companies. In the past month, the selling has spread throughout the junk-bond universe, as mutual fund managers have had to sell to meet redemptions and as worries about further losses in a possibly stalling global economy have gathered steam.

The broad decline means that junk bond investors have little or no gain to show for the risks they have been taking this year. Investors may have collected generous interest payments, and so not really felt the sting of the selloff. But the value of their bonds has fallen from, say, $1,000 to $920. The risk is that prices fall further and, in a period of global economic weakness, that issuers default on their interest payments.

Retirees have been reaching for yield in junk bonds and other relatively risky assets since the financial crisis, which presumably is partly what prompted Yellen’s warning last summer. It’s hard to place blame with retirees. The 10-year Treasury bond yield fell below 2% for a while and remains deeply depressed by historical standards. By stepping up to the higher risks of junk bonds, retirees could get 5% or more and live like it was 10 years ago. Many also flocked to dividend-paying stocks.

So far, taking these risks has generally worked out. Junk bonds returned 7.44% last year and 15.8% in 2012, according to Barclays, as reported in The Wall Street Journal. Meanwhile, stocks have been on a tear. But the backup in junk bond prices this fall should serve as a warning: Companies that pay a high yield on their bonds—and many that pay a fat stock dividend—do so because they are at greater risk of defaulting or going bust. That’s the downside of reaching for yield, and it doesn’t go away even in a diversified mutual fund.

 

MONEY

6 Simple Projects To Make Your Home More Retirement-Friendly

open kitchen with multi-level island
James Brey—Getty Images

Hoping to stay in your house for the long haul? These manageable changes will make your place more comfortable now—and for years to come.

Houses—especially prewar houses—can be tough places to navigate as you get older. Steep stairs, deep tubs, and narrow doorways, once just petty annoyances, can become serious obstacles.

Remodeling your home to remove those impediments is a major undertaking, likely to cost tens of thousands of dollars, says Louis Tenenbaum, an independent living strategist based in Potomac, Md. Plus, by the time these changes become a necessity, you probably won’t want to get involved in an expensive and inconvenient construction project.

A smarter strategy? Tackle these jobs early on, when you’re already planning a renovation. Whether you’re updating a fixer-upper, expanding a starter home for a growing family, or remodeling for your empty-nest years, making a few simple design choices now will help you live comfortably in your home for decades to come. Even better: Most will add little or nothing to the cost of your current project.

Making your home more retirement-friendly doesn’t have to mean sacrificing good looks. “We’re not talking about grab bars in the shower or a ramp by the front door,” says Columbus, Ohio, contractor Bill Owens, a National Association of Home Builders’ expert in so-called universal design. “The idea of universal design is that good design is people-centered and works for all ages and body types,” he says. Sought-after features like spacious bathrooms, farmhouse-table style kitchen islands, and freezer-on-the-bottom refrigerators are all examples of universal design.

Make it clear to your project designer and contractor that universal design is a priority whenever you renovate. Doing so will not only help you age-in-place gracefully, but will also increase the value of your home by making it more attractive and comfortable, says home designer and builder Mark Mackmiller, of Eden Prairie, Minn.

Ready to get started? Here are six changes to consider, as well as an estimate of what they’ll add to the total cost of your renovation project.

Open Floorplans

Removing walls between the living and dining rooms, kitchen, family room, and/or entry halls makes a house feel bigger, more modern, and more comfortable—and makes the space easier to negotiate in old age.

Cost: $3,000 to $5,000 per removed wall

Curb-Free Showers

Visit any high-end resort or flip through a glossy design magazine and you’ll notice that every shower has glass doors that go all the way to the floor, with no lip to step over. Aside from being a sleek and sophisticated look, this eliminates a major tripping hazard.

Cost: $500 to $1,000 for lowered plumbing and shower floor

Multiple Height Counters

When you redo the kitchen, include some counters at standard height (36 inches), some at breakfast bar height (42 inches), and some at table height (30 inches) with knee space for sitting. Having a range of counters will give you more options for prepping or cooking while standing or seated, all without requiring that you to bend over.

Cost: Nothing more than what you’re already spending on the renovation

Wide Doorways

Anytime you’re reconfiguring doorways, make sure the new openings are at least 32 inches wide. This makes your home feel more spacious, and will allow for wheelchair access should you ever need it later.

Cost: $50 to $400 per door

Lever-Style Doorknobs

Just as lever-style faucets have become the norm for kitchens and showers because they’re attractive and easy to operate, lever doorknobs are more ergonomic than standard round versions. They’re easier to grab and manipulate if you’re carrying a load of groceries or laundry—or if you’re aging in place.

Cost: No additional cost.

High Outlets

Left to their own devices, most electricians will install new outlets at 12 to 18 inches off the floor. But that requires bending over every time you need to plug in the vacuum. Ask for outlets 24 inches high instead, and you’ll make your house easier to use now, when you get older, and if you’re ever fighting a bad back.

Cost: No added cost.

 

MONEY retirement income

Why Workers Undervalue Traditional Pension Plans

Gold egg in nest in dark
Simon Katzer—Getty Images

Lifetime income is the hottest button in the retirement industry. So why do workers prefer a 401(k) to a traditional pension?

Despite many drawbacks, the 401(k) plan is our most prized employee benefit other than health care, new research shows. More than half of workers value this savings plan even above a traditional pension that guarantees income for life.

Some 61% of workers with at least $10,000 in investments say that, after health care, an employer-sponsored savings plan is their most important benefit, according to a Wells Fargo/Gallup Investor poll. This is followed by 23% of workers naming paid time off, 5% naming life insurance, and 4% naming stock options. Some 52% say they prefer a 401(k) plan to a traditional pension.

These findings come as new flaws in our 401(k)-based retirement system surface on a regular basis. Plans are still riddled with expenses and hidden fees, though in general expenses have been going down. Too many workers don’t contribute enough and lose out by borrowing from their plans or taking early distributions. Most people don’t know how to make a lump sum last through 20 or 30 years of retirement. And the common rule of withdrawing 4% a year is an imperfect strategy.

The biggest flaw of all may be that most 401(k) plans do not provide a guaranteed lifetime income stream. This issue has gotten loads of attention since the financial crisis, which laid waste to the dreams of millions of folks that had planned to retire at just the wrong moment. Many were forced to sell shares when the market was hitting bottom and suffered permanent, devastating losses.

Policymakers are now feverishly looking for seamless and cost-effective ways for retirees to convert part of their 401(k) plan to an insurance product like an immediate annuity, which would provide guaranteed lifetime income in addition to Social Security and give retirees a stable base to meet monthly expenses for as long as they live. Such a conversion feature would fill the income hole left by employers that have been all but eliminating traditional pensions since the 1980s.

With growing acknowledgement that lifetime income is critical, and largely missing from most workers’ plans, it seems odd that so many workers would value a 401(k) over a traditional pension. This may be because guaranteed income doesn’t seem so important while you are still at work or, as has lately been the case, the stock market is rising at a rapid pace. It may also be that the 401(k) is the only savings plan many young workers have ever known, and they value having control over their assets.

Seven in 10 workers have access to a 401(k) plan and 96% of those contribute regularly, the poll found. Some 86% enjoy an employer match and 81% say the match is very important in helping to save for retirement. The 401(k) is now so ingrained that 77% in the poll favor automatic enrollment and 66% favor automatic escalation of contributions. Four in 10 even want their employer to make age-appropriate investments for them, which speaks to the soaring popularity of automatically adjusting target-date mutual funds.

Read next: How Your Earnings Record Affects Your Social Security

MONEY

How Your Earnings Record Affects Your Social Security

Q: I took my Social Security in Jan 2011 at age 65 1/2 and have continued to work full time. By the end of this year, I figure I will have contributed around $5,500 into Social Security in each of the past four years. Knowing I made more money in recent years than I did in the prior years—the years on which my Social Security was based—I expected a readjustment, but my benefits didn’t change. My local Social Security office told me that any readjusting would have been done automatically in January. Then last month I got a letter stating that my check will increase by $1 per month, attributed to the 2013 year. What about 2011 and 2012? Nice return on $5,500! Do I have any recourse? Don

A: First off, I agree that it is very hard to keep paying into Social Security after you’ve started receiving benefits and not feel like you’re getting anything out of it. I think payroll taxes should be reduced for people who have reached full retirement age (it’s 66 now and will rise to 67 for people born in 1960 and later). Doing this would benefit workers and also give employers an incentive to hire older workers. To say the least, I am not holding my breath waiting for such changes to be enacted.

The specifics of how your future benefits are affected by your recent earnings is all about how Social Security calculates your earnings base. Social Security keeps track of all your covered earnings (earnings on which you paid Social Security payroll taxes) during your working life. Each year, it applies an index factor to your earnings to adjust them for the wage inflation that has occurred since that year.

In this way, money earned during 1985, for example, carries the same weight in calculating your Social Security benefits as money earned in 2005 or 2010 or 2014. This indexing stops when you turn 60; any earnings after that age are included in your earnings record on an unadjusted basis. Because of wage inflation, it’s quite likely these later-age earnings will raise your benefits.

The agency uses your highest 35 years of earnings to determine what it calls your Primary Insurance Amount (PIA), the benefit you’d get if you began collecting benefits at your full retirement age, which in your case is 66. If you do not have 35 years of eligible covered earnings, the agency enters a zero for each “missing” year. So, for example, if you had only 20 years of covered earnings, Social Security would calculate your benefit by using the earnings for those 20 years, adding 15 zeroes, and using this average to determine your PIA. (The PIA is also used in determining benefits to your spouse or former spouse that are based on your earnings record.)

Now, even though your earnings have been increasing, it’s possible they would not become one of your new top 35 earnings years. And even if they did, they might not raise your earnings base very much.

Perhaps you already have obtained your earnings record from Social Security. If not, you can get your earnings record at the Social Security website. It’s also possible, but a lot of work, to use this record to compute your earnings base.

The only recourse I can suggest is to take your earnings record to a Social Security office and ask a representative to walk you through it to make sure you’re being properly credited for your recent work history.

I hope this helps—though I realize my suggested remedy may only lead to more frustration for you. Best of luck.

Philip Moeller is an expert on retirement, aging, and health. His book, “Get What’s Yours: The Secrets to Maxing Out Your Social Security,” will be published in February by Simon & Schuster. Reach him at moeller.philip@gmail.com or @PhilMoeller on Twitter.

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