Addressing attendees at Sage Advisory’s Perspectives on the Future 2015 conference in Austin in Monday, Alicia Munnell, director of the Center for Retirement Research at Boston College, described three ways to improve retirement outcomes for Americans: working longer, saving more through changes to Social Security and employer plans, and considering investors’ homes as part of their retirement assets.
“We don’t need to rip down what we have and try to build something new because that’s not how change happens in the United States,” she said.
Americans are healthier and living longer than they have been in the past, so it isn’t a stretch to consider longer careers as part of the solution to then retirement crisis. Munnell said that to maintain the same ratio of working years to retirement years today as in 1940, the retirement age should be 70. Coincidentally, she said, that’s already the age at which retirees can claim their highest level of benefits.
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Between 60% and 70% of Americans could probably work longer than they do, she said, and those workers would stand to gain a Social Security benefit that’s as much as 76% higher than if they retired at 62.
Fixing Social Security
Munnell called Social Security “terrific money. That is inflation-indexed money. It lasts as long as you live. It’s such a good base to build a totally secure retirement.”
She said that while Social Security is in need of reform, it doesn’t need to be completely overhauled. As it stands now, the Social Security trust fund will be exhausted in 2034, at which point benefits will be cut 25%. The average person’s replacement rate will fall to 30%, she said.
One of those reforms is to address the legacy debt, she said: then first generation of retirees who received benefits without paying into the system.
“If you were setting up a system today to provide people with a $15,000 benefit, the average benefit retirees receive today, you would not need such a high tax rate,” Munnell told ThinkAdvisor in an interview Monday. “The reason the tax rate for Social Security is so high is that it also incorporates the payments necessary for interest on the debt. It seems like all the people who receive those benefits are dead, but it has to be paid off. You can’t just wish it away.”
Social Security actuaries estimated that in 2013, the closed-group unfunded obligation, or the obligation for current participants only, amounted to $23.7 trillion, according to a blog post Munnell wrote in early 2014. Munnell suggested that to resolve the legacy debt issue, the Treasury could put that money in the Social Security trust fund. “It would produce some income, which would allow tax to go down,” she said. But the Treasury needs to take that money from somewhere, which Munnell said “would require an increase in the income tax rates. That seems like a fairer allocation of the tax burden than putting it on the payroll tax, which has no deductions, no exceptions and a cap, and is burdensome for workers.”
The average income tax rate would increase from about 19% to about 23.6% of personal income, according to the 2014 estimates.
It’s important to make some kind of change, Munnell said, because the current system that taxes workers “makes the system, which is very important, look very expensive, when it really is a very modest benefit that people are getting.”
Employer-sponsored plans also need to be addressed. Munnell said in her session during the conference that 401(k)s were intended to be supplemental to defined benefit plans.
According to EBRI, as of July 2014, less than half of employees work for an employer that offers a defined contribution plan, and of those, just 39% participate. Furthermore, only half of sponsors use automatic enrollment and of those, only one-third have automatic increases in contributions, according to Munnell. She proposed requiring sponsors by law to use automatic enrollment and escalation in their plans.
“That shouldn’t be that big a deal,” she said. “If employers want to provide these plans, they should really want their employees to end up with some money. It’s in the interest of employers to have people prepared to retire.”