April 2007
You're a liability to yourself. To be balanced about it, you're also an asset, but for some reason my personality is comfortable seeing the downside. So, let's just focus on the liabilities for now. My view of the economic lifecycle of a human being is that start out a huge drain on both monetary and emotional resources. Thankfully, you hit about 20 and you're supposed to be on your own, so to speak. At that point, you face about 40 to 50 years of hard work aimed at funding your life and saving for the final 20 years or so when you won't be working. Like I said, you are clearly a liability.
This all might sound a bit pessimistic or a tad unemotional, but reality is reality. However, time is on our side. During that first 20 years of life, beyond the obvious societal benefits of getting educated, you are charged with improving your chances to earn a good living. It does seems pretty crass, but our entire system pivots on your ability to support yourself, pay taxes and have some left over to consume goods and services. This economic dance is what makes our society go 'round. Americans have been pretty good at it.
In years past, some serious help was provided. Often, your employer confiscated some of your pay to deposit into a "forced savings" vehicle, the fixed pension plan. And, still today, the government takes some of your pay, a whopping 12.4% of your earnings today, and it puts it into a kind of "forced savings" vehicle as well, called the Social Security Trust Fund.
Actually, the government hasn't actually put the money into any "vehicle" per se, but it instead uses your money now to pay for current retiree benefits and then it just lends to itself the ever dwindling amount of money that's leftover to help pay for today's government operations. In return it gets an IOU from itself. This massive collection of IOUs (that sit in an actual file cabinet in DC) is the "Trust Fund" that everyone talks about. Now, if a person tried to pull this off to fund their retirement years, it would be laughable. This charade will end someday and adjustments will be made.
Getting back to the past, when all was said and done, between those two forced savings vehicles, most people were pretty much taken care of and, as a society, personally saving for retirement was just not that important to worry about. People did it anyway, an as a result, inheritances are pretty common now.
Today, if you assume, like I do, that our government can figure out some reasonable solution to the Social Security problem, it is perfectly okay to bank on benefits from that source alone. For some people who earned very little in their lives, Social Security might take care of 35% to 50% of their needs in retirement. In a very real sense it is providing them with important financial security. For this reason, I believe it has been one of the most successful government programs ever and is worth saving in some form for generations to come.
I know some baby boomers may scoff at that thought that such a little amount from Social Security could provide that much support for there lifestyles, but for many in the generation before them, Social Security is doing just that.
In my opinion, due to their Depression-era experiences, the current retirees committed early on to living within their means and, at least in the back of their minds, they consistently worried about not having enough money. As a result, collectively speaking, they now have money and a sense of financial comfort.
Today, lifestyle desires are much, much, much higher than in generations before. Interestingly, this comes at a time when private pension plans are becoming extinct and Social Security is not in great shape. The burden has clearly shifted to individuals, a.k.a. you.
Basically, this massive shift in society makes you the liability and makes you the insurance company charged with paying for the promise of a secure retirement.
As is the case with any liability that looms out there in the future, it is important to properly "reserve" for it. The word, reserve, is the insurance industry's fancy term for "save". I know, I know, in the US we don't like the word "save" very much, as evidenced by our negative savings rate in recent years. However, I contend that this attitude is going to change pretty soon. The housing market in recent years masked this issue and now the mask is coming off.
Assuming that you have saved money, exactly how much do you to need to you retire?
Frankly, this is the biggest question that we hear as professionals and I'd love to give you a flippant number and call it deep analytical work, but it just doesn't work that way. Here is why.
Simply throwing out that you need $1,000,000 in savings to retire comfortably might sell Kiplinger's and Money magazine subscriptions, but it isn't that helpful to people. Here are some questions to ponder first.
What much do you think your desired lifestyle costs each year? How young are you? What is your home worth? Are you planning on living there until you die? Do you still have a mortgage? Do you have any other debts? How much of your lifestyle is covered by employer pensions and Social Security benefits? How important is it for you to leave money behind for your kids or charities?....
Now, it's not really that complicated to figure out how much you safely need to accumulate once these types of questions are answered (truthfully, that is!). This is all part of the process of planning ahead and here are two things to ponder when you think it through.
The less money you need to live on and the fewer years you'll need it for means you'll need less.
The more time you have to save money means the more you'll get to enjoy it all later.
My gut tells me that the next generation will end up working longer than they originally imagined, they'll be spending less money than they originally wanted to and they'll continue hoping for inheritances from a generation that also worked really hard and worried about not having enough and decided to save consistently.
Jason P. Tank, CFA
jason@frontstreet.com