The recent "fiscal cliff" deal allows the federal government to keep the lights on for now, but the last minute deal and any coming spending cuts must dim the future for some. One group with a darker financial future is older Americans. With some new twists to old-fashioned retirement saving plans, Americans can fill some gaps we can expect as Social Security, Medicare and other safety net programs get recast.
Though Congress has yet to strike a deal on spending cuts, it looks as if the coming so-called grand bargain, and any deals struck after that, will require older Americans to rely more on their own savings -- such as they are. Three out of four Americans near 65 have less than $30,000 in retirement savings. Inadequate savings is just part of a troublesome litany.
Teresa Ghilarducci, an economist at the New School for Social Research, calculates that half of retirees are destined to live near poverty and will have to live on a food budget of about $5 a day. The values of houses -- often the big asset that anchors a retirement strategy -- dropped, on average, by 17% from 2007 to 2010. Wages have stagnated, too. Only about half of American adults have any retirement savings at all.
This dreary retirement picture is about to get starker because it is reasonable to expect the biggest entitlement programs will get the most scrutiny for spending cuts. That includes Social Security, which does not contribute directly to the national debt but probably will in 2033 when the trust fund is expected to be exhausted. All the leading proposals to stave off this reckoning amount to a benefit cut in Social Security.
Another seemingly essential element to reduce the national debt is trimming health care and entitlement benefits, by as much $600 billion over 10 years. One way is by raising the age at which people can get Medicare. Every year shaved off of Medicare eligibility is a huge benefit cut. This year, or next, expect to see Medicare provide less. There are other entitlements that older people often rely on that will be visited with every budget negotiation.
So if seniors need more money in retirement, where might it come from? Perhaps by reversing America's big shift from traditional pension to individual retirement accounts. It has been too hard to exact returns from 401(k) plans and other self-managed vehicles. One reason, says Diane Oakley of the National Institute on Retirement Security, is that it's much easier to plan for the risks of a large group, which has a real average for health and longevity. Then there is the burden of choosing investments that track with your changing needs. Traditional pension plans, called defined benefit plans, don't have to move in and out of their investments that way.
Drawbacks to 401(k)
Over 30 years, Oakley says, money in individual retirement accounts can be expected to return nearly 25% less than equal amounts of money poured into traditional pension plans. Add in the inefficiencies and fees built into the individual accounts, and the differences widen. Individual accounts require savers to put in nearly 50% more money over their working lives to get the same monthly income as retirees who've paid into traditional pensions.
Well-run public sector defined benefit plans are good at maximizing returns while safeguarding beneficiaries' money. The reason: They are prefunded by employer/employee contributions, which are regularly adjusted to what the economic and investment environments require. Though some public pension funds are in dire straits (usually because lawmakers decide to borrow against them and don't pay back the loans), most are in solid shape.
One idea being floated in several statehouses is to let private-sector retirement savers buy into the bigger defined benefit plans and thus get higher returns. What's more, attaching more people to those plans lets them build regular savings into their retirement planning.
We are likely coming upon a long era of cuts to entitlements, and over that time there can be no substitute for effective saving and prudent investing.
Ted Fishman, author of Shock of Gray and China, Inc., is a member of USA TODAY's Board of Contributors.
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