In yet another example of “innumeracy” when it comes to retirement adequacy, the Bipartisan Policy Center — which insists that affluent people will retire rich and don't deserve tax breaks — has proposed tackling the deficit by halving the amount that employers and employees can contribute to 401(k) accounts. Under the proposal, the total combined contribution would be limited to 20% of an employee's annual earnings or $20,000, whichever were smaller.
By limiting contributions, the BPC's thinking is that “qualified plans no longer will be a vehicle for wealthy individuals to convert a substantial share of their assets into tax-free retirement assets.”
Would that this rich-person tax flimflam were true. The fact is, even upper-middle-income individuals are not allowed to contribute enough in order to retire, given that those under 50 can't sock away more than $16,500 a year in a 401(k) account, and people must contribute a minimum of 10% of their paychecks to their accounts.
My household is one of the millions of victims of this counterintuitive policy, which would be made worse by these reforms, forcing us to put most of our household savings in non-qualified investments because of the puny $5,000 ceiling on annual contributions to individual retirement accounts.
The BPC insists that removing tax breaks would let “most individuals retain the ability to contribute enough to ... replace a substantial share of their earnings in retirement.”
But why should Americans be forced to bankroll their own retirement entirely?
The “inconvenient truth” is that very few, if any, Americans can retire on their 401(k) savings, whether they are pulling down a five- or seven-figure income. It's got nothing to do with tax breaks and everything to do with the measly employer contribution rate equal to 3% of pay, the second-lowest in the world. Australia's contribution rate to their version of a 401(k) account is equal to 9% of pay, Denmark's is 11.8%, Hungary's is 8%, Mexico's is 6.5%, Poland's is 7.3% and the Slovak Republic's is 9%.
The actuarial rule of thumb for retirement income adequacy is having retirement savings equal to a minimum of 10 times one's salary right before retirement. Having a $610,000 nest egg in your 60s, therefore, isn't a windfall. It's the goal if you're earning the median income of $61,000.
If there were 1,000 people in the U.S. with an accumulated “10 times final” in their accounts in their 60s, I'd be amazed.
Fidelity Investments' latest report on its clients showed that for those between 60 and 64 who earn more than $100,000, the median 401(k) account balance is $273,000. That's less than three times the salary of someone earning $100,000.
The Vanguard Group Inc.'s figures are even gloomier: Only 3% of its participants have accumulated more than $250,000, and the median account balance for those over 65 is a paltry $52,000.
If you think that most of Vanguard's and Fidelity's customers are likely covered by a defined-benefit plan, think again. Only 11% of the private-sector population is covered by such a plan, and even employees of large companies are probably out of luck. While 90 of the Fortune 100 companies offered some sort of pension benefit at the end of 1998, according to Towers Watson, & Co., today only 17 of them offer a DB plan to new hires.
Incredibly, another committee that is advising the president on fiscal issues, the White House National Commission on Fiscal Responsibility and Reform, is considering tackling the deficit by cutting tax breaks to corporate pension plans as well. Thanks, guys! Now pension coverage will shrink from 11% of the population to zero.
While there has been much debate about making Social Security solvent, I haven't heard any talk of making it adequate. The U.S. has one of the least generous Social Security systems in the advanced world, replacing one third less income than other countries.
Unfortunately, President Barack Obama's so-called 401(k) experts simply support “automatic enrollment,” in which employees contribute 3% of their pay, one third of what is needed, without requiring a minimum employer contribution. And what about the 50% of the Americans with no plan at all? They get an “automatic IRA,” in which employees can contribute but employers don't have to.
In the United Kingdom, by contrast, a greater percentage of the population is covered and employer contributions to their 401(k)-style plans are twice as generous as ours. Starting in 2012, in fact, virtually every U.K. employer that doesn't offer a pension must enroll employees in a plan that features a minimum employer contribution equivalent to 3% of pay.
Ironically, at the same time the nation's policymakers shy away from requiring employers to contribute enough to employees' accounts to ensure retirement adequacy, they are also proposing to make it more difficult for the majority of us who must bankroll most of our own retirement. Advisers should consider teaming up with the mutual fund industry to lobby to raise the ceiling on deductible IRAs from the measly current limit of $5,500 to $50,000 for any American not covered by a pension. Only in that way will most of us be able to save enough outside of our 401(k) accounts to provide for adequate retirement income — which currently is not in the cards for most Americans.
Jane White is president and founder of Retirement Solutions LLC, an advocacy organization for 401(k) participants. She can be reached at [email protected].
