In a recent survey, Legg Mason found that a 32% of Americans are “very confident” that they will have enough money for a comfortable retirement.
That same study finds that retirement confidence falls sharply as Americans approach retirement and really understand just how expensive it is to retire – that is, exactly how much money must be saved that will last through retirement. In contrast, just 17% of Baby Boomers who have retired or are approaching retirement are very confident they will have a comfortable retirement.
Looking at Millennials, 60% responded that they are “very confident” in their retirement prospects. This confidence is not consistent with the data that reveals a deeply troubling retirement outlook for this generation. Two-thirds of working Millennials have absolutely nothing saved for retirement. Zero. Nada. Nothing. Unfortunately, absent change, Millennials’ current optimism about retirement likely will plummet once they realize they are behind in savings and fully understand how expensive it is to retire.
Because the U.S. private sector largely has shifted away from pensions to do-it-yourself 401(k) accounts, the only way Americans can hope to save enough money to maintain their standard of living in retirement is to diligently and consistently save throughout their entire career. But setting aside money from the first day of work until the last day is difficult for the 78% of Americans who live paycheck to paycheck. For these workers, their reality is paying the bills and barely getting by with nothing left to save for retirement. And the reality is – the longer individuals wait to save, the more expensive retirement becomes.
“Canada faced similar retirement savings issues. Private sector pension plan coverage fell – from 35% in 1977 to just 24% in 2015. During the same time, private sector retirement plan coverage in the U.S. stayed below 50% and dropped to 40% in 2014.”
But what’s different in Canada? Policymakers took action.
To ensure a better base of retirement income for older Canadians, leaders reached a consensus decision to enhance the Canada/Quebec Pension Plan (C/QPP), the main component of their social security program. Starting in 2019, C/QPP future benefits will gradually increase by roughly 50%, funded by increased employee and employer contributions. The end result raises C/QPP target retirement income replacement to 33.3% of income during a Canadian’s career.
We should applaud Canadian policymakers for taking decisive action to shore up their basic building block of retirement income. Sadly, the situation in U.S. couldn’t be more different.
Despite annual warnings from the Trustees of Social Security about its eventual financial shortfall, leaders in Washington barely discuss how to strengthen our Social Security program. Currently, the half of older Americans relying on Social Security for 50% or more of their income cannot afford a 23% reduction in their benefits if no action is taken.
But even after shoring up C/QPP, there still is a retirement income replacement shortfall for many Canadians that employer-sponsored retirement plans and personal savings must fill. In fact, Healthcare of Ontario Pension Plan (HOOPP) commissioned research from Common Wealth with support from the National Institute on Aging that found retirement is “one of life’s biggest expenses.”
According to this research, The Value of a Good Pension, the private sector shift away from collective retirement approaches like traditional defined benefit (DB) pensions to individual retirement saving accounts like 401(k) plans has had a detrimental impact the efficiency of each retirement dollar. The research indicates that cost-effective retirement plans create value through five key drivers:
- Mandatory or automatic savings
- Lower fees and costs
- Improved investment discipline
- Fiduciary governance
- Pooling of longevity and investment risk
In Canada, a top performing collective approach using those five factors can deliver the same level of retirement security at a cost of nearly four times LOWER than the individual approach similar to 401(k) accounts of U.S. private sector workers. That means it takes far less money to achieve retirement security.
The most significant cost saving value comes from pooling the longevity and investment risk, which delivers nearly $400,000 on savings as part of the total $890,000 savings for a typical worker in Canada.
Research from the National Institute on Retirement Security and others finds strikingly similar findings. For example, Still a Better Bang for the Buck found that the economic efficiencies embedded in DB pensions enable these retirement plans to deliver the same retirement income at a 48% lower cost than 401(k) accounts. In Colorado a report to the State Auditor found delivering the state pension benefits thought 401(k) account would cost 2.4 times as much as the public employees retirement plan.
The bottom line is that saving for retirement “on your own” is costly.
Viewing HOOPP’s complex analysis from the value that a model pension plan or individual account can deliver to a Canadian worker for each dollar contributed to a retirement plan, the pension generates $5.32 of retirement income while the individual approach delivers $1.70 of retirement income.
Understanding these cost numbers inherent in the collective approach to retirement security is important for international, national and local policymakers in an era of government fiscal restraint. High quality pension systems can deliver retirement security in the most cost-efficient manner. While some policymakers advocate switching to individual retirement accounts as a way to lower retirement costs, this approach has the exact opposite effect – driving up costs and undermining retirement readiness.
“The U.S. and Canada share close cultural and economic ties, and we often face similar economic challenges. Financial studies from both countries tell us that that saving for retirement “on your own” is costly. And, the time value of money tells us that putting off solving our retirement crisis will on make preparing for retirement increasingly expensive.”
Canadian workers benefit from recent actions to improve and strengthen the C/QPP, as well as policies that tap into the economic efficiencies of pension plans. Unfortunately, U.S. policymakers remain mired in inaction and worse. When every dollar saved today counts for so much, we need to build an efficient retirement system for U.S. workers in that incorporates the value drivers HOOPP has identified. Otherwise, we will continue to face an unnecessarily expensive retirement system that Americans just cannot afford. And we can say goodbye to a comfortable retirement for the middle class.
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