What you need to know about personal savings accounts
Following the news on Social Security? Here's why you should: There's
a proposal to make you responsible for investing some of your own
Social Security dollars. And the outcome could have a big impact
on your retirement.
Financial experts would like to see more concrete
details on how the plan would work, with assurance of safeguards
to prevent losses due to bad picks or a down market and plenty of
"The devil's in the details," says Roger Hickey, director of the New Century Alliance for Social Security, a consortium of large organizations fighting against the privatization of Social Security. "The public generally likes the idea of private accounts. It seems to them that it's something for nothing. When you start talking to them about losing a guaranteed benefit, they suddenly turn very negative."
Eric Tyson, author of "Investing
for Dummies," thinks that the individual investment idea has
an upside. "If people are reasonably competent investors, they should
be able to produce more money in the long term for themselves,"
he says. "The return from contributions is far less than investing
in the stock or bond market.
"The big potential downside is that people could do a lousy job investing their money, as some investors are prone to do."
The "how-to" of private
Here's how it might work, based on a couple of informal proposals
currently being floated:
If you're under a certain age, you can opt to take
a portion of the money you put toward Social Security and put it
in an investment account. Sometimes referred to as a personal savings
account, or private investment account, it would probably function
similarly to a 401(k). Ideally, you would be able to choose several
ways of investing the money, including methods with low return for
low risk, or higher risk for the possibility of higher returns.
Most likely vehicles: a handful of stock, bonds or mutual funds.
On retirement, you would either start making withdrawals or cash in all or part of your account in return for an annuity that would offer a regular fixed payment.
Sounds simple. But there are a host of questions that haven't been answered.
"One question is, 'What's my total retirement income
from the Social Security system going to be under this new plan?'"
asks Hickey. "Will it be higher or lower than what I'm projected
to get from Social Security? Everybody thinks they are going to
get these accounts on top of their Social Security benefits."
Next, how much would participants be allowed to invest? No one knows at present. Most seem to agree that it would be a portion of your contributions. The big question: can you grow that money into something substantial?
"For some families, it would be a lot," says Tyson. But they have to keep at it year after year and need to harness the power of compounding interest.
"The fact is that most people -- 72 percent of Americans
-- have portfolios of less than $50,000," says Paul Farrell, author
Lazy Person's Guide to Investing." Most experts recommend a
nest egg of $1 million, with an average 6-percent interest to generate
$60,000 annually to safeguard a stable retirement, he adds. "There
is no possibility in the world that most boomers can throw off enough
money to retire comfortably using private accounts."
Smart consumers need to ask some questions. "I'd want
to know what provisions there are for inflation protection," says
Virginia Morris, co-author of "The
Wall Street Journal Guide to Understanding Money & Investing."
"The current system provides inflation protection. I'd want to know
what happens in market downturns. This was invented in the '90s.
If you compared what your account would be worth in February 2000
or February 2002, there's a huge difference."
Who's watching your money -- and will they take your calls?
Savvy investors always want to know more about the behind-the-scenes details. In this case, there's still not a lot to go on. One article on the Social Security Web site projects an annual administration fee of one-quarter of 1 percent of the account, "which strikes a lot of people as extraordinarily optimistic," says Morris.
One possible explanation, she says, is that fund managers
would have a default arrangement that is 65-percent stocks and 35-percent
bonds. When the account reaches a certain size, the investor could
then take over control, says Morris. The magic number: $10,000.
But it's not clear whether that's in contributions or overall account
value, she says.
What do you get for that fee? Will the manager, either
a government entity or private company, help you manage your money?
"You have the same kinds of questions that companies
offering 401(k)s have to deal with in the wake of Enron," says Hickey.
"Can I get independent advice? What is the overhead of the new system?