For months we’ve been reading about the fiscal cliff and its potential impact on different aspects of our finances. Yet, baby boomers may have a much bigger worry on the immediate horizon that should be getting more attention from both the media and financial planning community: the retirement cliff.
What is the retirement cliff? It’s the current state of retirement in America brought about by several factors including the massive numbers of baby boomers retiring in the next 20 years, the shift from traditional pensions to defined contribution plans that began in the 1980s, and the lack of adequate retirement savings and increasing debt that plagues many of these boomers. The retirement cliff is an unsettling reality facing millions and it demands that boomers think about and prepare for retirement differently.
For the past 30 years, the financial services industry has been focused on educating boomers about how to accumulate assets and build portfolios for retirement. Now, the industry must do a better job of preparing this group of Americans for the transition and distribution phases – those critical years leading up to and through retirement.
In addition to the current state of retirement in America, consider the following four financial challenges. These challenges will make falling over the retirement cliff even harder for boomers:
- From 1999 to 2011, health insurance premiums increased by 160 percent for consumers, while wages only increased by 50 percent. (“Cumulative Increases in Health Insurance Premiums, Workers’ Contributions to Premiums, Inflation and Workers’ Earnings, 1999-2011,” Kaiser Family Foundation and Health Research and Educational Trust (HRET), September 2011)
- For a healthy couple turning 65 years old in 2012, to be reasonably certain (90 percent) they'll be able to meet all of their out-of-pocket health-care costs during retirement, they would need at least $283,000. (“Savings Needed for Health Care Expenses for People Eligible for Medicare: Some Rare Good News,” Employee Benefits Research Institute, October 2012)
- The base cost for an assisted living community is $42,600 per person, per year. (MetLife Mature Market Institute, 2012)
- Nearly two-thirds of Americans ages 45-60 say they plan to delay retirement due to financial loss, layoffs and income stagnation. (“Americans Rip up Retirement Plans,” Wall Street Journal -“Trapped on the Worked Treadmill?” Conference Board, 2013)
- Seventeen percent of transition boomers — those 55 to 65 years old — have yet to start saving for retirement. (Allianz Life’s 2012 Retirement and Politics Survey)
- A conservative 3 percent annual inflation rate over 20 years would nearly double the costs of goods and services.
- Seniors spend more in categories most affected by inflation – medical care and housing. According to the U.S. Department of Labor, between 1983-2011, medical care and housing inflation outpaced overall inflation. (U.S. Department of Labor, Bureau of Labor Statistics, February 2012, Vol.5, no. 15)
Retirement will last longer. Data show that a couple, both age 65, has an even chance that at least one of them will live to age 89. That could mean potentially up to 24 years in retirement for one of them. (LIMRA, Retirement Income Reference Book)
Fifty percent of workers will have to leave the workforce earlier than planned. (2012 Retirement Confidence Survey, Employee Benefits Research Institute)
Complexity of our tax code. It is estimated that a tax-efficient plan for withdrawing money annually from retirement accounts (no more than 4 percent of the initial amount) can result in a portfolio lasting seven years longer. (“How to Make your Nest Egg Last Longer” Wall Street Journal/William Reichenstein, Baylor University)
It’s clear that boomers must prepare differently for living in retirement than they have accumulating assets for retirement. There are many moving parts, so it’s less like solving for one equation and more like figuring out a Rubik’s Cube. Boomers must focus on distribution strategies that help maintain their lifestyle – helping them to keep pace with inflation while being protected from significant market volatility.
An effective way for boomers to bridge this gap over the retirement cliff may be to incorporate guaranteed sources of income – such as certain annuities, whose guarantees are backed by the issuing company – into their retirement portfolio. While having some guaranteed income won’t solve every problem in retirement, it can help to ensure that basic living costs are met. And with benefits that offer increasing income (which may be built into a contract or available at an additional cost), boomers can know that they have a plan for addressing rising costs that we believe are on the horizon.
For more from Katie Libbe, see:
- Boomers & retirement savings: The Good, the Bad and the Ugly, part 1
- Boomers & retirement Savings: The Good, the Bad and the Ugly, part 2
- Retirement: It’s not all scary