From the April 2006 issue of Investment Advisor • Subscribe!

April 1, 2006

The History of Retirement

400 years of seeking financial security

In 17th century massachusetts, if a Plymouth colonist was wounded while defending the colony against Indians, he would receive a pension that would help support him and his family. Since the colonist was unable to perform manual labor due to his wounds, he retired. These pensions were funded by tax collections, which ironically were often performed by the "retired" combatant himself.

While it may not have been a retirement plan as we think of it today, the fundamental principle was the same: success in retirement equates to independence and financial security. Throughout the nation's history, the pursuit of financial independence has been a paramount concern for Americans, but the parameters of retirement have changed as our demographics have shifted. The Centers for Disease Control estimates our current life expectancy to be about 77 years. In 1900, at birth we could have expected to live about three decades less.

How did we arrive at this 21st century notion of retirement?

Prior to the 19th century, most people gained their living from working the earth; they'd farm until physically unable to do so, but chances were good their children would take over their duties as they aged and they'd stay in their own homes until death, alongside multiple generations of family. As the Industrial Revolution took hold, people left the farms in droves and a large labor force began to emerge, with the need for decent wages and a sense of security. In 1875, the American Express railroad company set a precedent by establishing the first private pension plan in America. Banks, utility companies, and manufacturing companies quickly followed suit and established pension plans funded mostly by the employer.

The next major development came during the Great Depression. President Franklin D. Roosevelt signed into law the Social Security Act of 1935, which paid retired workers age 65 and older, and disabled people, a fixed amount each month for life. In 1935, the program was funded by a 1% tax on both employers and employees on the first $3,000 of a worker's earnings. In January 2006, nearly 34 million Americans collected Social Security, with the average retired worker receiving approximately $1,000 per month. Today, the Social Security tax rate is 7.65% on employers and employees.

ERISA in 1974 added an additional security blanket, protecting assets from misuse by fiduciaries and ensuring employees' rights to their pensions. It also allowed those not covered by pensions to open tax deducible IRAs. In 1981 401(k)s emerged, followed by Roth IRAs in 1997.--Ryan G. Murphy

Sources: Social Security Administration; Centers for Disease Control; Treasury Dept.; Dept. of Veterans Affairs; National Archives

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