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Kotlikoff: Government, Employers Should Butt Out of Retirement Planning

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Boomers will be retired for longer than older generations, according to Lawrence Kotlikoff, professor of economics at Boston University. “Many are retiring at a pretty young age and will be living longer,” he told attendees at Sage Advisory’s Perspectives on the Future 2015 conference in Austin on Monday.

He said 30% would be primarily dependent on Social Security for retirement income.

“Americans have been taught that the government and their employers are going to take care of them,” he said. “That’s a big mistake. I don’t think you can trust the government to take care of anything.”

Furthermore, “employers aren’t our parents” and shouldn’t be relied on to make decisions about what health care or savings plans employers use.

“Employers aren’t our friends. They aren’t our parents. They should be the hell out of this entire game,” Kotlikoff said.

In an interview with ThinkAdvisor, Kotlikoff said education on financial planning should start in high school. “Every high school in the country should have a short course where they teach basic financial planning, present value discounting and life cycle consumption smoothing,” he said. As part of the course, students should be required to do a financial plan for their parents. “Then the parents will learn something and the kids will learn something.”

He added that “the math here is so simple, once you teach present value, how much you get to spend every year if you’re not facing these cash constraints — that’s high school algebra.”

Clients’ ability to retire will be hampered by several issues, including the underfunded status of Social Security’s trust fund.

He referred to Table VI.F1 of the Social Security Administration’s 2015 Trustees’ Report, which shows the trust fund is 32% underfinanced. “We all need to start paying four cents more out of every dollar we earn forever starting today in order to pay of all the benefits the Social Security system has scheduled,” Kotlikoff said.

Another problem is that investors aren’t maximizing the Social Security benefits they could receive, he said.

Social Security has 2,728 rules in its handbook and “hundreds of thousands” of rules in its program operations manual about those rules, according to Kotlikoff. “Most people in the Social Security office don’t understand those many rules and they are routinely giving people either incomplete advice, misleading advice or absolutely wrong advice.”

He described one woman who reached out to him after reading his book “Get What’s Yours: The Secrets to Maxing Out Your Social Security” because one of his suggestions, she claimed, was wrong. Kotlikoff and his co-authors wrote that if retirees take their Social Security benefits early, when they reach full retirement age they can suspend their benefits and start it up again at age 70.

The woman tried to follow that suggestion, but was repeatedly told by people at Social Security that she couldn’t do so, even after escalating her complaint to supervisors.

“This is a very well-known thing among people who are actually experts in Social Security,” Kotlikoff said. “You need to tell Social Security what to do. You can’t ask them what to do.”

Longevity risk, of course, will hurt investors who don’t plan on living to 100. “We don’t want to think about living to be very old because we don’t want to jinx ourselves so we count on dying on time,” Kotlikoff said. “Dying on time means dying at our life expectancy rather than dying at our maximum age of life.”

“Everyone thinks the only way to gin up the economy is to spend more,” Kotlikoff said, but he pointed to several examples of growth during periods of saving: “We had a very nice saving rate in the 1950s, and the country grew magnificently,” and Japan had a high saving rate in the ‘50s and ‘60s as well, and “grew terrifically.”

“The idea that you need to spend in order to grow is just completely uneconomic, but it connects to the politicians wanting to get re-elected,” he said.

Kotlikoff urged advisors to do economics-based financial planning. “What that means for most people is to establish a living standard floor and figure out ways to raise that floor safely, even before you start thinking about investing with them.”

Ways to raise that living standard floor include taking benefits at the right times, figuring out what state they want to retire in, deciding whether they want to downsize their home or purchasing inflation-adjusted annuities.  

The basic idea of an economics-based financial plan, according to Kotlikoff, is consumption smoothing. “We don’t want to be splurging today and starve in the future, nor do we want to starve today and splurge in the future.”

Consumption needs to be smoothed over time, yes, but also over good times and bad times, he said. “Good times is when the stock market booms. Bad times is when the stock market crashes. If you’re not diversified, the good times are great and the bad times are terrible.”

Insurance also helps with consumption spending, whether it’s health insurance or auto insurance, according to Kotlikoff.

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