When you are young, retirement can seem like it’s a million light-years away. But time passes quickly, and yesterday’s retirement dreams can soon morph into tomorrow’s savings nightmares if you fail to plan.
Today’s younger savers — often dubbed “Generation Y” — have the power to control their financial future if they get a head start on their retirement planning, says Victor Ricciardi, an assistant professor of finance at Goucher College in Baltimore.
In part two of a two-part interview, Ricciardi expands on those thoughts. He also talks about suggested changes to monthly 401(k) statements. (In part one, Ricciardi discussed who should consider investing in a Roth individual retirement account, and whether the time is right to purchase an annuity.)
How do you feel about the Employee Benefits Security Administration’s recent push for adding projected monthly income amounts to 401(k) statements? Will this spur more people to save, or will this add to the confusion out there?
In my opinion, this is a good idea … as long as the financial statistics are presented in a simple manner and do not overwhelm retirement savers with too much information.
For example, if retirement savers are presented with how additional contributions made on a monthly basis will result in higher savings at age 65, I think that has a great deal of value.
A similar approach is now utilized on credit card statements in order for people to understand the amount of interest they are incurring. By increasing their monthly payments, this will reduce the total amount of interest paid during the life of the loan and pay off the outstanding debt more quickly.
However, there is a risk of providing too much information on a financial statement, because most workers only have limited financial knowledge and they might be either overwhelmed by information overload, or if it is presented in too much of a complex nature, that will result in inertia.
The retirement provider should conduct a pilot study to ensure individuals understand any changes to the retirement account statement.
So, depending on the knowledge of the general public, it will either convince them to save more or maybe it will just confuse them even further.
For example, it does not make sense to provide retirement savers with 10 advisory scenarios. The major focus should be basic, understandable … with the main objective to increase the savings or contribution rate among retirement plan participants in order to have a higher standard of living in their retirement years.
How do you think the Social Security system should be fixed?
My belief is to utilize (an approach) that combines all of the following, including:
- An increase in the retirement age.
- A small increase in the withholding amount for current workers and companies.
- A slower growth rate in the inflation rate of benefits.
- Means testing for wealthy individuals.
That way, you build a policy that is going to take into account people’s overall income, (and) if they are wealthy, middle class or lower income. It also takes into account whether they are currently paying into the system or receiving benefits today from the system.
As our life expectancy grows, an increase in the retirement age makes sense. But also, if you are going to increase the withholding tax permanently — for example, half a percentage point for both employees and their employers — then current retirees that receive benefits have to provide some adjustment to the system.
For instance, a reduction in the growth rate for how the government calculates the consumer price index, or CPI, for inflation each year for current beneficiaries is worth consideration. If you lessen the growth rate — an average CPI of 3 percent by a reduction of 1 percent a year, to an average of 2 percent — that would add about $1 trillion over a 12-year period to the overall system.
Lastly, the implementation of means testing for wealthy individuals — in which people with higher incomes would receive reduced benefits or no benefits — has been discussed.
But also, it is a behavioral issue. I think for any real changes to be made to the current system, there has to be greater trust in government. Both political parties have unfortunately taken surplus money from the Social Security system since the late 1960s and used these funds for other programs. So this has created a lack of trust in politicians and government officials to fix the current system.
So if you could impart one message to the American people about retirement, what would it be?
My major message is to younger Americans such as Generation Y. These younger individuals have the power to control their financial future.
If an individual starts saving for retirement at age 22 and invests $2,500 per year for 40 years and earns a 10 percent return within a diversified portfolio of mutual funds during that time period, that is the quickest and the easiest way you can become a millionaire.
So the idea, even at age 22, is either investing in a traditional 401(k) plan or, if you contribute to an IRA account, at least $50 per week or the equivalent of $2,500 per year into an account. Get started early! You will build that wealth and before you know it, you will start to have a lot of money. This is the quickest way to achieve financial freedom and maintain your standard of living in retirement.
Furthermore, that means moderating spending habits and not carrying credit card debt. But also, if an individual has student loan debt, take a balanced approach to reduce college education loans and start to save for retirement.
Questions for the interview were provided by Barbara Whelehan, assistant managing editor at Bankate.com.