The economy continues at its strong pace, keeping unemployment at its lowest rate in nearly 50 years. While this is usually good news, employee financial vulnerability is clouding this sunny forecast. The repercussions are impacting their ability to save for retirement.
Millennials are the most stressed by their financial situations, followed by Gen X and Baby Boomers according to PWC’s 8th annual Employee Financial Wellness Survey released in June 2019 (Figure 1 bottom right). More than 80% of the employees surveyed believe they will have to work during retirement.
Top Two Financial Concerns
The top two financial concerns across age groups are:
- Not having enough emergency savings for unexpected expenses. This is especially true for Millennials and Gen X.
- Not being able to retire when they want to (37% of all employees); 52% of Baby Boomers ranked this as their biggest concern.
Causes of Financial Stress
Nearly 32% of employees surveyed said they are not saving for retirement because they have too many other expenses and too much debt.
- For 19%, retirement readiness is impeded because they are providing financial support to parents, in-laws, or adult children. More than 50% also have to support dependent children.
- Credit card debt is increasing across all generations because it is the only way employees, especially Gen X and Baby Boomers, can afford necessities.
How You Can Help Employees Save More
Employers are finding innovative ways to help employee save:
Adopt PPA Safe Harbor Measures
Leverage Pension Protection Act (PPA) Safe Harbor provisions by:
- Automatically enrolling all employees (not just new hires) in retirement plans.
- Setting an initial contribution amount and automatically increasing that amount over time.
- Reviewing employee group demographics, then setting your Qualified Default Investment Alternative to a target date fund, target risk assess allocation, or separately managed account.
Adopt PPA Safe Harbor Measures
The figure that gets tossed around most often when talking about how much is needed for retirement is $1 million. For some who are unable to save for an emergency, they throw up their hands when they hear that figure, knowing it isn’t achievable.
To help employees set realistic savings goals, employers need to help them project what they will need to have accumulated to live in retirement. There are three general guidelines for calculating retirement goals to make saving for retirement more manageable.
Guideline 1: The 25 Times Rule of Retirement
The 25 Times Rule is one way to help individual employees estimate the nest egg that they need for retirement. The employee simply needs to make a list of current expenses, then multiply that figure by 25. This provides an estimate of the amount of living expenses over 25 years. Though expenses may change in retirement, don’t assume that they necessarily go down. This method assumes employees will withdraw about 4% of their retirement nest egg each year without being in danger of running out of money.
An individual who will have $20,000 a year in expenses, will need roughly $500,000 to retire comfortably for 25 years.
Guideline 2: The 70% Rule of Retirement
Another way to project retirement savings is to estimate that employees will need about 70% of their average income for each year they live in retirement.
If an individual has a median working income of $35,000, he/she would need a little more than $600,000 saved for expenses over a 25 year retirement period.
Guideline 3: The 15% Rule of Retirement
This rule only works if employees have been saving since their twenties or early thirties, or they are currently in that age bracket and are looking for a rule of thumb to build their retirement nest eggs. It is simple: they save 15% of their income every year. This method gives employees the peace of mind that they are saving enough to live comfortably without the burden of reaching a specific target.
Important Considerations: Income and Expenses
Employees’ expenses will be very different once they retire. They won’t have travel to and from work and they won’t have business attire or day care expenses, etc. They can eliminate a mortgage payment by paying off their house. On the other hand, other expenses will go up. Healthcare costs increase with age and Medicare doesn’t cover 100% of healthcare expenses and covers 0% of nursing home expenses. Many people dream of traveling when they retire, which means those expenses will be higher. So, underestimating retirement expenses can cause retirees to go through their savings faster than anticipated.
Income will also be different because employees will not have to pay Social Security and Medicare taxes, which currently consume about 7.5% of their paychecks. Their Social Security income will be taxed at a lower rate than their wages since they will most likely be in a lower tax bracket. They will also not be diverting any of their incomes to retirement or health savings accounts.
How Many Years Should I Plan For?
This is always a difficult subject, but it is necessary to plan for the best when thinking about how long employees will need to fund retirement. Healthy people tend to live longer regardless of age, so that is a consideration when projecting longevity. Another factor is family history—how old are or how long did their parents, grandparents, and siblings live? If they have relatives in their nineties, they should plan to live that long as well.
Calculators and Other Projection Tools
- The Social Security Administration has free calculators that employees can use to understand their projected monthly benefits. Of course, these benefits can change depending on the age that an employee opts to start taking Social Security.
- The Center for Retirement Research at Boston College offers Target Your Retirement, a free, interactive program that helps near retirees develop a reasonable plan for maintaining their standard of living in retirement.
To best help employees create comfortable nest eggs, help them understand the long game of retirement using some of the guidelines provided above. You can also provide easy to use tools that help set realistic goals so employees can feel confident that they are making progress toward their retirement goals.
This newsletter is intended to provide general information on matters of interest in the area of qualified retirement plans and is distributed with the understanding that the publisher and distributor are not rendering legal, tax or other professional advice. Readers should not act or rely on any information in this newsletter without first seeking the advice of an independent tax advisor such as an attorney or CPA.
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