their primary career, or retire early and work at something different? This
decision could have a big impact on their retirement income.
Baby boomers who are sick of their jobs are naturally eager to get out of the
rat race and do something more enjoyable and fulfilling. But there is pretty
convincing evidence that working in one’s primary career just a few years longer
can make a huge difference in the amount of money available in retirement.
Boomers may not want to hear this, but if you can show them that they will have
far more freedom and comfort throughout their lives—including the choice to work
or not work—they may be more willing to stick it out a few more years in their
primary jobs.
Impact of retirement age on total assets
The Congressional
Budget Office analyzed the impact of retirement age on the total assets
needed in retirement. In its introduction, the CBO stated:
Every additional year of work leaves members of a household with
more income, a shorter retirement to finance out of pocket, more time to save
and earn returns, and higher Social Security benefits, which are largely
tax-exempt. Taken together, those factors can substantially reduce the private
assets that the members of the household need to accumulate to maintain their
working-age standard of living in retirement.
In fact, rather than being dismayed over having to work a few more years,
many boomers will be thrilled to know that they may be able to make up for lost
time.
Consider a married couple in their early 60s earning $77,000 per year—roughly
the median pretax income of married households ages 55 to 64 in 2002. After
paying federal and state income taxes and Social Security taxes, the couple
takes home about $58,600 in annual income. To replace 80% of their income in
retirement, they will need $46,900 in after-tax income.
If both spouses retire at age 62, the couple will receive about $20,100 in
Social Security benefits annually. This means they will need another $26,800 of
after-tax income per year. If they were to buy an annuity to generate this
income, they would need to accumulate about $510,800 before retirement.
If they were to retire one year later, at age 63, their annual Social
Security benefits will increase to about $21,600, so they would need to finance
$25,200 per year after taxes themselves. In this case the annuity would cost
them $465,000. The cost of the annuity—and thus the amount the couple needs to
accumulate—continues to decline for each year that they delay retirement, to
about $298,400 if they retire at age 66 and to about $117,700 if they retire at
age 70.
Each additional year of work not only increases annual Social Security
benefits and reduces the amount of wealth needed at retirement, but it also
extends the amount of time during which working households can earn returns on
their savings.
As a result, if the couple reaches age 62 with only $243,300 in savings—less
than half the assets they will need to retire immediately—the CBO says they can
still retire with sufficient assets at age 66 by saving 10% of their after-tax
income and earning a 3% real (inflation-adjusted) rate of return. Likewise, by
continuing to work and saving 10% of their income, the couple can still retire
comfortably at age 70 even if they reach age 62 with only $51,800 in savings.
Work now or later?
Leading-edge boomers who are worried that they’ll never have enough saved may
be glad to know that working longer offers a very simple solution to the
retirement dilemma. They need not work forever—just a few more years. Doing so
allows them to both save more and reduce the amount of personal assets
needed.
OK then, if working is the solution to retirement, what about taking up a new
line of work after leaving one’s primary job? The problem here is that
post-retirement jobs generally don’t pay very much. Fun positions such as fly-fishing guide or
tour director pay very little, while skilled jobs in a different field—such as
teaching or nursing—require costly training and starting at the bottom of an
already-low pay scale.
Among the current generation of retirees, the most common type of job by far
is the one the retiree didn’t plan for—the Wal-Mart greeter or Home Depot clerk
who had to go back to work to make ends meet. These older folks may indeed enjoy
their jobs, but you can be sure they don’t make very much money. Boomers have
the opportunity to escape that fate by working just a little longer at the front
end of their retirement years.
Emphasize the following points to your undersaved clients between the ages of
55 and 62, along with a concrete plan for reducing current spending and stashing
large chunks of income into a moderately aggressive retirement or investment
account. Postponing retirement a few more years offers the following
benefits:
- More salary to save and invest or pay down debt.
Pre-retirees at the peak of their careers can make substantial contributions to
their retirement and investment accounts and still enjoy many more years of
compound growth on those assets. Alternatively (or in combination), they can
dedicate a chunk of their income to debt reduction, thereby lowering their
expenses in retirement. - Higher Social Security benefits. Applying for Social
Security benefits at normal retirement age produces a 25% higher benefit than
applying for early benefits at age 62. Waiting until age 70 more than doubles
the benefit compared with the amount available at age 62. And since Social
Security is based on the highest 35 years of earnings, boomers who took time out
of the work force or had low-paying jobs early in their careers can boost their
primary insurance amount by replacing those low- or zero-earning years with the
high-earning years they are enjoying now. This especially applies to women. - Higher pension benefits. Whether a pre-retiree participates
in a traditional pension plan with benefits based on salary and years of
service, or a 401(k) plan with an employer match, working longer will boost
those benefits in most cases and result in more assets to use in retirement. - Save on health insurance premiums. Retirees who go from an
employer-sponsored health plan straight to Medicare at age 65 can avoid the high
cost of individual health insurance between ages 55 and 64.
Working longer will not be a solution for everyone. Some people are forced
into retirement by their employers or for health reasons. And those who are
fortunate enough to have generous pensions, substantial personal assets, and
employer-sponsored health insurance may indeed enjoy the luxury of taking jobs
like working on a dude ranch,
teaching little
children—or not working at all.
But boomers who are at the peak of their careers—especially those who have
not saved as much as they’ll need to finance a comfortable retirement—may be
glad to know that staying in the work force just a little longer can make a
significant difference in the amount they’ll need to save. Then they can explore
some of those interesting encore
careers that will give meaning to the rest of their lives.
