I’m that terribly stereotypical kind of early millennial… poor, financially illiterate, always floating between random gigs, expecting the future to be all doom and gloom and social collapse and AI fodder and all that. At 40 years old, I have no savings, own nothing of note (house, assets, etc.), and probably never will. I’ve made my peace with that.
But I’m a little curious. How did retirement use to work (or maybe still does, if you’re lucky enough to have a middle-class job and lived a more financially sound life than I did)? I know that the government can take some of your money and put it into some special savings account for you, and that some companies might match it. Is that what a 401k is?
And then there’s social security, which is a separate fund that young people pay into that old people get paid from, in which they get back some percentage of their lifetime wages… and all of this is contingent on an infinitely-growing economy, and may not be solvent by the time I’m 65?
And then of course people are free to save their own additional money, invest in various financial instruments with different levels of risk, etc.?
Is that generally how it kinda works? Am I missing anything major?
Retirement seemed like such a normal concept in the generations before mine. Did people have to go out of their way go plan for it, making high-risk investments and only being able to retire if they were really lucky? Or did it generally just kinda work out as long as they were in the workforce long enough, even for a blue-collar job?
There are many far more knowledgeable people than I who can address your questions in more detail, but I will mention a couple things that sort of surprised me as I approached retirement.
Like many people, I found it difficult to regularly put aside money into retirement accounts. Fortunately, I worked a few jobs where I got some matching funds. Because of this, I at least have a “nest egg” for emergencies. I can’t live on the interest alone, but it’s more than a lot of people have.
Over the years, I changed jobs/employers quite a bit. Sometimes I was working for peanuts. But I somehow managed to have enough relatively high-paying years that I did pretty well in the eyes of the SSA. My wife retired at an early age due to some health issues. I semi-retired, but was able to get enough work to keep from having to claim my SS retirement benefits until I was at full retirement age (70). When I finally did claim my retirement, I found that I was receiving a little under $50K/year. This was a bit shocking (in a positive way), since I wasn’t one to keep tracking my SS benefits as part of any financial planning I did.
My wife’s SS + my wife’s state pension + my SS > six figures…which is good.
TL;DR: Try to hit it big as far as your SS contributions for at least 10 to 15 years, then wait until full retirement to start collecting.
(Yes, I know there’s a whole industry out there trying to give you advice about whether to start collecting your SS earlier or later. I’m suggesting later. YMMV.)
In the “old days,” many people retired with a pension. And a bit depressingly, a lot of people (particularly men) died in their 50s and 60s of heart attacks and whatnot.
The government doesn’t take anything from you (in this particular case). You voluntarily elect to put a percentage of your pre-tax pay into an account set up by your employer (up to $24K/year, or $31.5K/year for those older than 50 IIRC). The employer may choose to match some percentage of your contributions, but it varies considerably by employer. That money is managed in various investment options and you get full access to it at age 59.5, with some limited access to it before that.
I’ve contributed money to my 401Ks over the years, and when I left each company I’ve rolled them over into a single 401K managed independently. That is the bulk of my retirement savings, plus my current 401K and social security. I also have a small pension from my first employer. My wife has 2 teachers pensions, a small amount from SS, and her 403B. We are not planning to start all of those at the same time - we’ll stagger them to take advantage of higher rates of return the longer we wait.
We also have additional savings that are not tax-deferred. Those are earmarked for home improvements, travel, and emergencies. I don’t consider our house to be part of our retirement plan since we have to live somewhere, but we could eventually downsize or move to a less expensive location and pull money from that sale.
Some still have that, I’m looking forward to a decent pension in a few years, from the Canadian government.
Mine is a “Defined benefits” pension, which is probably the best type, and most secure. As part of my compensation package, the employer puts aside a certain amount every paycheck. When I retire, I’ll get a guaranteed pension amount every month, that being the “defined benefit” part. So no matter what the stock market does, my income will be okay. I’ll be fine unless the Canadian government collapses, but if that happens, we’re all equally screwed.
You cannot competently make any sort of suggestion here without knowing the individual’s circumstances. This is sometimes the correct advice of course but there are very common circumstances where this is objectively horrible advice.
One of the things I learned a few years back is that if you have an HSA (health savings account) you should contribute the maximum amount (or as much as you can afford) every year. Unlike a flex spending account, which is use-it-or-lose-it every year, the HSA balance rolls over to the next year, and you can continue to use it after retirement. So that’s another way to build up some extra money for retirement.
Absolutely agree. That’s why I state “YMMV” and try to make clear that I’m only suggesting it. Again, there’s oodles of people who make a living in part by helping people make this decision.
No, I don’t think “high risk investments” and “getting lucky” was the path for most. I’m sure that worked out for some people, but that wasn’t the plan that people were advised to follow.
Here’s a semi-related, hopefully non-hijack - I’ve never had an HSA, but always the FSA with the annual use it or lose it limitation. That’s always worked in my favor, in that most years I’ve spent most or all of it, and the years that I didn’t happened to be years when I could use what remained on prescription glasses and sunglasses.
A friend recently started talking about an HSA strategy that I hadn’t considered. And that’s put as much in the HSA as you can (looks like the cap for a family is $8,300 this year) but never claim against it. Make sure its invested in high-yield, long-term options. But here’s the kicker - save every medical receipt of any note. At retirement time, the idea is that the HSA should have appreciated substantially, and you produce 20, 30 years of receipts and pull that whole amount out tax free.
This friend comes from a very privileged background and has occasionally mentions some really strange ideas about financial planning that wouldn’t survive long contact with the real world, but I don’t immediately see a flaw with her plan.
To answer the OP, basically, retirement all boils down to getting 1 or more streams of revenue to sustain you when you are old and don’t work anymore.
A 401k, if you sock away enough money for decades, is one such stream. That may give you $20k a year. Social Security might give you another $10-20k. Any other investments, bank savings, an inheritance, whatever, might give you another $10-20k. And so forth. You combine them all together.
So if you do it right (and sadly, too many Americans don’t or can’t,), you might get something like $40-70k a year in retirement to sustain you til death.
One concept that is often used to describe retirement funding is the three- legged stool. Retired people are expected to have three sources of funds: pensions, Social Security and tax-advantaged retirement accounts.
Pensions are funds that are maintained by an employer while you are employed, and then paid out during your retirement. The number of companies offering pensions has dropped significantly since the 1970’s; currently the only employers consistently offering pensions are government entities.
Social Security is a government-run program started during the Great Depression. The government takes money out of your paychecks and then provides you with funds during retirement. Although the amount you receive is based on your salary and years of service, the funds you receive are coming from new people paying in, which is why there are concerns about how much the system will be able to pay out going forward. That’s why you should think of Social Security as only one leg of the stool and not your entire retirement.
The third leg of the stool is your own savings and investments, especially tax-advantaged accounts like 401ks and IRAs. These are accounts where you invest your own money, but by law receive favorable tax treatment so that your investments can grow faster and larger. As the availability of pensions decreases and the future of Social Security is uncertain, these types of accounts have become the most important retirement vehicle for most people.
Of course this is all very U.S. specific, although many other countries provide some form of tax-advantaged accounts for retirement savings.
I’m no financial advisor, but this makes no sense to me. You’d be paying your medical bills along with way with post tax dollars during your earning years, and taking the HSA money out after retirement at presumably lower tax years. Or, you could use it as intended and pay your medical bills with pre tax money along the way.
(BTW, I stopped saving medical receipts after a few years. No one has ever asked to see them, and all my HSA spending has been directly to doctors or pharmacies)
Yes, there are still pensions, although rarer and rarer among corporations and private businesses. There are laws in the US about how pension funds must be administered, in order to make them relatively safe from predation and other kinds of loss – not absolutely safe, but better than without the protections. The source of my pension is the company I worked for, for 34 years before I retired. The amount of a pension grows the longer you work for a company, so it seems to pay to stick with one company if you can. At least, for each company you would need to stay long enough to get “vested” in the pension program, a number of years which varies. Normal used to be 5 to 7 years to get vested, I don’t know what is normal now. A pension is also based on your earnings level, so if you get promotions and raises over the years, that is another reason to stay with one company.
I have a pension that is about 50% of my before-retirement income. My husband and I each gets social security, based on our earnings. I have a decent-sized IRA (that’s what a 401(k) becomes after you retire) from which I have taken modest withdrawals so far. Those are the three sources of our income, and we have lived fairly comfortably for the past 10 years on that. The only problem with my pension is that the amount is fixed, so it is only worth about 75% of what it was worth 10 years ago. As time goes by this becomes more of an issue, and we will have to draw more heavily on the IRA at some point, or cut our expenditures (or both).
In the previous generation, my father had a good government pension, my mother had nothing even though she worked for the same company (small, family-owned) for 25 years or so before she retired.
Definitions are going to vary quite a bit. Retirement from the career you have been in and starting Act 2? Retirement from working altogether? Accessing things typically used by older people? Here are some of those things:
Medicare - up until age 65, you may be provided medical/dental/vision insurance by your employer. Or, you may be purchasing it privately or thru one of the health insurance exchanges (courtesy of the ACA). After 65, during your most expensive health years, employers are off the hook for paying your insurance, and the US government takes over. You have to choose from a lot of options in order to mimic what you had from your employer.
Social Security - yes, you contribute to that thru your working years, and are provided a financial benefit during your retirement years. You can access these funds as early as age 62, but the longer you wait, the more you will receive each month. Each of us has a FRA (Full Retirement Age) by which you are eligible to receive your personal maximum payout (67 for me). I think at age 70 they automatically start paying you the maximum benefit if you have not yet claimed it.
401k - Employer-based retirement plans where you can shave-off some money from your paycheck before taxes are deducted, and place the funds into an account that can grow tax-free. The employer may choose to contribute some to this as a perk. You get to pick form mutual funds the plan (e.g. Fidelity) offers based on your employer. You can start pulling from your 401k at 59.5 years of age without any penalty, but if you start earlier there are penalties.
IRA (Individual Retirement Account) - this is like the 401k but is a retirement account set-up individually at an outfit like Schwab. You can contribute pre-tax funds to it as well as roll-over funds from other vehicles like 401k. There are rules for how much you can add per year, based on your age. You can also contribute after-tax dollars to what’s called a Roth IRA. Age 59.5 to access.
Pension - these are becoming extinct. Companies used to have a pension fund that they would put money into, and if you worked there a certain number of years, then retired, the company would pay you a set amount per month from this fund. But, as people lived longer pensions became a massive albatross of expense that did not help the company compete, so the emergence of 401k helped make this sort of cost more manageable and predictable for companies. I have a pension awaiting my retirement and I can take it as a lump sum, I think at age 62. Will vary by company.
I’m good at this stuff and I am fairly certain that that HSA scheme would work. I don’t think that they ever audit when you ask for money back but maybe they’d make an exception for someone taking out $50k all at once.
My banker uncle was so excited for me when I got a job at Disney where I qualified for a pension, because jobs with pensions are so incredibly rare these days.
Unfortunately, the studio shut down a year and a half after I started working there, so I never got vested. Luckily they had been matching for 401k at that point.
First off, no it didn’t and doesn’t. Statistically large number have been under saved for retirement and struggle, and will be trying to live off of Social Security.
Basic guidance: put as much as you can in tax protected savings now. Company plans, Roth IRA s, HSA, so on. Investing early in a small basket of index funds grows mightily over time. Understand that “risk” means volatility, but if you expect big swings and keep adding in according to plan along the way you will be able to ride out the downs and ups. Don’t get spooked when your account suddenly drops lots. Just keep adding. Slow but sure.
Hope that Social Security won’t decrease benefits too much by the time it’s your turn but don’t rely on it.
It is great that you are asking these questions now. I’m tremendously lucky, I worked for a state government and draw a pension. Best advice I can give is start (or increase) your 401k as soon as you can. If your employer matches your contributions up to a certain point, definitely put in as much as they will match. It’s free money, so you’re wise to take it. Unless you can find a job that offers a pension, that 401k plus Social Security is what you’re going to be living on. What kinds of funds to invest in- high risk/high return vs low risk/low return will be your decision and I can’t say which is better. Good luck in whatever you choose.
Before you decide to stop working, sit down and figure out how much money you will need to live and how much you will be getting from whatever income sources you have or plan to have in retirement. Determine if you will have enough money to last you until you are age 90. If you can’t do that, find somebody to do it for you. You may have to pay them. By all means contribute as much as you can pre-tax to your 401K or IRA account if you have one.
You should expect Social Security to pay out less each month in the future then they are paying out today, but how much less and who will be impacted by the cutbacks is anyone’s guess. If you find you can’t reduce your expenses and you won’t have enough money coming in from your income sources, plan on continuing to work, at least part time, until you physically can’t, or until you find another income source to fund what you need to live the rest of your life.