Retirement Problems

We know that qualified retirement plans and IRAs are prime long-range savings vehicles; we use them to accumulate assets and invest for the future. So why aren’t some of us amassing the retirement nest eggs that we should?

Why did retirement account balances decline from 2010-13? Looking at Federal Reserve data, the influential Center for Retirement Research at Boston College noticed something unsettling. In that period, the average 401(k)/IRAs balance of a household headed by someone aged 55-64 fell $9,000.

Wait a minute – haven’t we just witnessed a raging bull market? How could this be?

Moreover, why was the average aggregate 401(k)/IRAs balance of such a household just $111,000 at the end of 2013? These were baby boomers nearing retirement age.

During 2010-13, the S&P 500 jumped 56%. On that factor alone, the average total retirement account balance for these households should have swelled to at least $187,000 from the 2010 starting point of $120,000.

That wasn’t the only factor in play, however. The CRR’s Alicia Munnell – a nationally respected authority on retirement accounts and retirement saving – has pinpointed some reasons for the shortfall.

Leaks, loans, fees, interruptions & foreignness. At MarketWatch, Munnell looked at a mock 60-year-old who could have enrolled in a 401(k) plan in 1982. (That was when those retirement accounts first emerged.)  This hypothetical boomer was plainly average, earning Social Security’s average wage for 31 years while deferring 6% of salary into the account.

This boomer’s investment allocation? Right down the middle, a 50/50 mix of equities and debt instruments. Throw in a 50% employer match during those 31 years, run the numbers using real-life returns across those 31 years, and our theoretical boomer should have amassed $373,000 by the end of 2013. That is 3.36 times as much as the household average noted by the Fed in its 2013 Survey of Consumer Finances – and for an individual aged 55-64, the average total 401(k)/IRAs balance was even lower at $100,000.

Even over 31 years of saving, a $273,000 disparity in retirement assets is too large to attribute simply to the lack of an employer match or a portfolio’s allocation. Munnell sees other dynamics promoting the gap.

Do investment fees come into play? Oh, yes. In Munnell’s example, fees are the big culprit. Investment expenses (based on data from the Investment Company Institute) eat up $59,000 of the potential balance over these 31 years. So that takes $373,000 down to $314,000.

Loans and other withdrawals exert an effect. The CRR finds that 1.5% of retirement plan assets “leak out” annually. Putting that 1.5% to work in the example, these leaks cut the mock boomer’s total 401(k)/IRAs balance further to $236,000.

Too many people don’t (or can’t) contribute steadily to retirement plans, so Munnell calculates a 30% nonparticipation rate into the equation. (Since 2000, Vanguard has consistently reported that level of nonparticipation in its workplace retirement plans.) That leaves $165,000.

Finally, there is foreignness. It took a while for IRAs and 401(k)s to be fully embraced as default retirement savings vehicles; in the 1980s, contribution rates were lower as a byproduct. Munnell chalks up $65,000 of lost gains to that historical factor to arrive at the average individual total 401(k)/IRAs balance of $100,000 cited by the Fed.

Hasn’t auto-enrollment worked? Thanks to federal law, many employers have been able to automatically enroll workers in qualified retirement plans at a 3% contribution rate since 2006. The downside of auto-enrollment is that some of the auto-enrolled “set it and forget it,” never increasing that contribution rate through the years. This could also factor into the lower-than-expected account holdings.

One asterisk about all this. The CRR only studied working households that held both IRAs and 401(k)s. It didn’t incorporate households headed by retirees or households that may have rolled over workplace retirement plan assets into IRAs into its dataset.

Regardless of these numbers, we all have to fund our retirements. Some economists and financial professionals are highly critical of the current retirement savings vehicles, but whether they like them or not, it is certain that these retirement accounts offer remarkable potential to grow wealth in the long term through equity investment and compounding. While the Center’s findings are disconcerting, the takeaway here is that consistent and early contribution, lower fees and avoiding withdrawals can make a big difference in retirement account balances.