“Thirty-seven percent of the elderly in the U.S. collect pensions, which provide some guaranteed income until they die. Fewer than 10 percent of boomers do, and that number is quickly shrinking.” ~ Bloomberg News
Today, Americans face a growing risk that they will outlive their savings during retirement, and the proposals to address this risk are exactly wrong.
This issue may not affect you today, but it will over time as the nations absorbs the cost of poor retirement planning to keep seniors out of poverty ridden old-age. Failing to pay attention today will make for an expensive tomorrow.
The risk isn’t terribly difficult to understand. People expect to live longer at a time when all of the traditional retirement tools are deteriorating. People have saved less (see Pew Research). Private pensions cover fewer people (see Bloomberg News). Social Security even in a good economy cannot assure scheduled benefits for anyone who is 67 over the course of retirement.
Americans who have insufficient resources for a secure retirement really have two options. One option is to increase savings as they work. The other is manage the risk through insurance. That is to buy protection from the cost of an unlikely event, much like one buys auto or health insurance.
The cost associated with living beyond one’s ability to work is very similar to costs in these other events. The likelihood of reaching 100 is about 1%. The cost of such longevity is frightful. Likewise, a small percentage of the population will experience a car wreck or health event. Insurance provides some financial protection from the cost of these unlikely events.
Imagine that you read in the media that increased car traffic over the next year will lead to more traffic accidents. Would you open a new brokerage account to cover the increased possibility that you might have an accident or would you buy more insurance?
If you listen to the nation’s policy makers on retirement, you would rush-out to open the second brokerage account. Obama has recommended a new savings vehicle called MyRA. Senator Rubio has proposed opening the federal Thrift Savings Plan to all Americans. The Heritage Foundation has suggested automatically enrolling Americans in IRA savings plans. All are savings driven plans.
It makes much more sense for people with insufficient savings to buy insurance against old age. In a pure savings model, every individual has to create sufficient savings to offset the possibility of long life. In an insurance model, the insured collectively have to create sufficient wealth to pay for only those people who actually live a long life. Insurance targets the resources of the pool on those that are actually effected.
It is important to understand the difference between an investment and insurance. An investment accumulates wealth. Insurance manages risk. Insurance spreads risk across a large population and targets resources to people affected by the cause of cost. Insurance isn’t an investment. It is an expense, one which buys some peace of mind.
The implementation of this concept takes two forms. First, we need a 401K type account that delivers insurance instead of savings. This would enable older workers to buy protection against the unknown. Second, we need the ability to transfer some retirement savings to retirement insurance that starts to pay out at more advanced age.
Americans should be allowed to buy flexible insurance directly from a retirement savings account. This policy would provide supplemental income starting at a retirement age, say 70, and lasting until 95. Some people would not live to 70, and would collect nothing. By concentrating the wealth of people who do not live to 95, it is more possible for the group to provide for those who do. Insurance is not an investment.
This concept is not Social Security. It is what Social Security was supposed to be at its inception, a self-funded program insulated from politics of vote-buying. In the words of FDR, “With those taxes in there, no damn politician can ever scrap my social security program.” Unfortunately, Congress altered the program from self-funded to self-financed, ending the concept of insurance.
Throwing money at Social Security will not fix this problem. Social Security is a broken system. Last year, the system collected about $800 billion, and in exchange it created roughly $3 trillion dollars of broken promises. It created nearly $4 of failure for every $1 it collected. Social Security today is not part of the solution. It is part of the problem.
Today our policy makers are telling people to out run the tsunami. Their suggestions betray either a lack of understanding of the problem or an indifference to the consequences of their ideas.