I’m sure that’s part of it - but I have recently started looking into the possibility of converting most of my deferred compensation into an annuity - and I really can’t find any general info. Not even whether withdrawing a large amount from my 457K to buy an annuity will be subject to state income tax in the year I do it. Sure, there are websites looking to sell me an annuity that might give me info if I create an account - but I don’t like to get information only from someone trying to sell me something.
What's the Dope's view on the superiority debate re: traditional defined benefit pensions vs. 401ks?
I’m not any kind of tax adviser, but make sure you talk to one before you withdraw money from a tax deferred account like a 401k. You may be able to invest in an annuity right in the account, deferring the taxes until the money is paid out – I remember seeing products like that when I worked adjacent to some insurance people. I think that an annuity will automatically qualify for your minimum withdrawals that 401k’s and the like have when you reach certain ages.
The problem with annuities is that they are hard sells so commissions are large so fees are high. And, they come with all kinds of bells and whistles that will add cost, when all you’re looking for is a personal pension.
There is one type of annuity that avoids those issues - a SPIA, Single Payment Immediate Annuity. Seldom mentioned by advisors since there usually is just a small or no commission.
Easy to find online calculators for the curious.
Yeah, the floes are supposed to melt after the oldsters get on them, not before.
Got to get that government job to get that pension. But, municipalities and states are in danger. The federal not so much because of being in control of the dollar.
The danger with 401k is self discipline and potentially the government pillaging them. I like 401ks but I can see the allure of a federal pension.
Sure, but they might be someone, or a company, that happens to be in a better position to exploit that financial asset for its long-term worth than you could anyway. You might be someone with only 10-30 years left to live, and would be better off with big cash now, while that company could last for many decades after you die.
What…? (Do you mean the taxation of 401k benefits upon withdrawal?)
That’s built into the system. What I worry about is a future administration deciding that retirement assets exceeding a certain amount of dollars disqualifying the owner from receiving social security benefits. I realize that that’s not likely to happen, because that would be bad for old people with money, and old people with money run the government, but there was a time when I was younger that that worried me.
Our staff association (not actually a union) wrested control of the pension fund and set up a defined contribution plan to the Canadian equivalent of 401k. Since I retired just before the mini-recession in 2000, I did very well. It was turned into an annuity at a very favorable rate (which, given very low interest rates they must be taking a bath on) but I have been getting about 5/6ths of my 1999 salary for very nearly 20 years and counting. And when I am pushing up daisies, my wife will still be getting 60% of it (so half of my final salary). This is all in addition to Quebec Pension (similar to soc. sec.) and a something called old age security (an additional payment not supported by payments to the Quebec Pension Plan). On the other hand, 1980 type inflation will kill me. But it hasn’t happened.
But how is this different than social security?
Personally I’d be happy with higher social security taxes and higher social security benefits, combined with some kind of government tax credit that is used to match personal savings. Of course a personal tax credit will get expensive. If the first 2k in personal income tax is a tax credit to match the first 2k in savings, that will be about 300 billion a year.
Social Security works. Not all companies will offer pensions, but those who do, and have employees who expect to retire on them, would be forced to fund them honestly.
Social Security, btw, is redistributive, with a number of features which cause people on the bottom of the income curve to get relatively more than a flat system. Which is fine with me. Private pension plans would probably not have this feature.
I think it would be hard to increase the SS tax for all, but not that hard to increase the cap for the better off. That would at least fund the system and maybe even allow us to increase payments at the bottom.
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True, the risk of unknown future market returns is always there, it’s just a question of who bears it.
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I think the main problem, though you gave a couple of examples of symptoms of it, is that company managers work for company shareholders (ideally, but always partly for themselves personally in practice…just like everybody else) not company employees, despite any recent popular rhetoric among woke CEO’s about working for ‘stakeholders’. So there have to be guardrails that make them do certain minimum things for groups like employees, especially ex employees whose morale and attitudes don’t directly affect the current productivity and thus profitability of the company. The basic argument for individually managed savings is just to put control of retirement savings in the hands of those who have the most direct self interest in making it work: the future retirees.
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But right, the basic offsetting problem is that ordinary people aren’t necessarily that rational, besides unskilled, in financial stuff.
But ‘annuities have high fees’ is mainly valid for products like variable annuities which are vehicles for savings as well as paying out in retirement. As other posters have pointed out, SPIA’s, which just cover the back end, you pay $X upfront and get $Y per month per life are quite competitively priced and can be had for very low fees. Of course like anything you can get yourself ripped off on an SPIA, you can pay list price for a car where other people are getting 10%+ off, too. But you can get SPIA’s competitively priced with low fees. They aren’t a panacea, the market in US pretty much lacks true inflation adjusted ones for example (because customers don’t want them, back to lack of rationality plus financial illiteracy, they pay out less because it’s real dollars, and most people just see that as ‘less’). And you have credit risk to the insurer, so should diversify that with at least a couple or three but that’s more complicated.
Recent proposed reforms have included making it more streamlined to annuitize the payout of 401k/IRA’s and that’s a good small caliber idea. But the only really plausible big caliber idea to make taxation higher and public pensions more generous. Company pensions don’t really make a lot of sense IMO besides ‘that’s what we’ve always done’, kind of like company provided health insurance doesn’t either.
I agree that SPIAs can be useful, but let’s go back to the OP’s question – what’s our opinion on 401k’s vs. pensions – I think pensions were very useful because they were forced saving for the employees, managed by professionals, with (effectively) low fee SPIAs at the end. 401k plans require employees to have the discipline to save the money and manage it well.
Regarding the risks, pension funds could have matched their assets and liabilities with bonds instead of rolling the dice with stocks. When the market crashed, they had to keep paying out, so they were selling at the lows, increasing the pain. Insurance companies that provide immediate annuities aren’t allowed to do that – why were pension funds allowed to? My point is, well-managed and well-funded pension funds don’t have to take those kinds market risks – highly rated corporate and government bonds could be used to match their actuarial liabilities very well.
Anyway, I agree that, for retirees that have had the discipline to save for retirement through their 401k and did a good job managing it, an SPIA can be a great way to create an individual pension (also agreed that the bad products tend to be deferred variable annuities).
I’d maintain the key point that market risk/return relationships exist no matter who is put in charge of pensions. You could have regulations that said corporate pension money had to be invested in low return govt bonds…you could have regulations saying the IRA/401k money had to go into high grade bond funds. Same same basically. Now nobody is bearing equity risk…but expected return is lower. Thus more has to come out of wages now to pay a given payout in the future.
Not saying that’s wrong or right, just largely IMO beside the point of who should be responsible for pension management. Unless one labors under the illusion that ordering companies to put more aside for defined benefit pensions wouldn’t just lower wages commensurately. Just like higher 401k/IRA contributions required to reach a given target with govt bonds only would. There’s not much reason to believe that a mandate for super conservative pension investing by companies would come out of the shareholders’ end of things. It would tend to come from the workers’ end of things.
It’s true insurance companies tend to operate under stricter investment guidelines that tend to result in more conservative investments than private or that matter state/local public pension plans (corp pension plans are actually usually run more conservatively than public employee ones). But as we’ve discussed, people don’t/shouldn’t generally rely on insurance co’s to build up assets in working years from 20-something to 60-something. SPIA’s from ins co’s are for the shorter 60-something to 70/80-something back end.
I don’t see on a first order basis how forcing private investment to lower return safer assets really answers the question of who should control pensions, co’s or individuals. Maybe on a second order basis the fact that the lower returns of ‘riskless’ assets and their effect on future benefits and current wages would be better hidden from workers in arcane pension rules for co’s, v telling people they were not allowed to invest in equities in their 401k’s, which would probably be bitterly resisted. But it’s really the same thing either way.
Again I think the first principals conflict is that companies are run for shareholders (in the best case, for management’s personal gain in the worst case) not workers. All the regulation in the world doesn’t change that. Workers have a directly aligned interest in optimally managing their own pensions which companies never will. OTOH workers are typically financially illiterate and sometime irrational on the topic. That’s the tension, but I personally believe pushing responsibility for the pension system back toward corps is a mistake. Better to try to improve on the flaws in the personally managed system.
Defined benefit plans (pensions) and defined contribution plans (401k) are employee benefits that are offered at the discretion of employers, they are not rights, or mandated. Employers use such plans to distinguish themselves in the market place as good employers. In some cases employers user richer (above market) benefits to entice employees to join them and/or stay working with them. This is very dependent upon the labor market that the employer is facing.
Defined benefit plans have generally gone by the wayside to never return, because of the significant risks that employers face when funding them: interest rate risk, mortality risks, market performance risks, etc. After the financial crisis of 2008, the average defined benefit plan in the US found itself with 40% - 60% funding deficits, that the company’s were faced with making up the shortfall. As the participant’s began living longer and as interest rates declined, deficits also continue to grow. These are risks that are difficult for companies to manage effectively.
So as most companies froze or discontinued their defined benefit plans, others followed suit as the market had changed what was an acceptable employee benefit. Most companies that provide defined contribution plans, also provide help through outside advisors on how to invest your money that is contributed.
People need to take responsibility for their own lives. It is not the responsibility of your employer to ensure that you have saved enough money to retire. But many employers do provide the tools and the mechanisms to make it easier for employees to do that. Most also make matching contributions.
If you are told that for every dollar you contribute that your employer will match up to 6% of your pay, my question is why? If a friend came to you and said hey I’ve got this great investment opportunity for you. Invest $200 a month and each month you will earn $200 on top of that investment, a 100% return guaranteed, would you turn it down? I’d make changes to my personal spending habits to make sure I got that investment return.
Theoretically true. Practically speaking, not so true due to well understood psychological reasons.
When retirees run out of money (at least they have Social Security, a defined benefit plan) what do you propose to do? Let them starve? Tell them they should have been better investors?
Lots of shortfalls in retirement plans come not from excessive spending but from trying to keep things together during layoffs. Income stagnation means that there is less opportunity to save. Getting that return is great - but not so great if it means not having money for both food and a mortgage. Telling people to adjust their personal spending habits is fine for those of us in the upper middle class, not so good for those just holding on. It’s very much a “let them eat cake” attitude.
We know for instance that when 401K contributions were not the default, the signup rates were much lower than they were once Thaler and Sunstein (working for Obama) made them the default. And Thaler noted that when they made the contribution rate 2% as the default (to not take money people would need by default) the amount of contributions dropped.
Now I did fine in saving for retirement. But it would be arrogant of me to say that what worked for me would work for someone making 1/3 of what I did and who isn’t all that good with numbers.
The main factor, I think, in my retirement success is that I have never been laid off and so have never had to dip into savings to live. Not everyone is so lucky.
This has been a fascinating read, in large part because (I’m in the UK) so much of what happens in the US has a close parallel here. I have a defined benefit plan from a a job I had some years ago (a company pension, available to pay out from age 65 for life; but you could take it earlier at a reduced income); a defined contribution plan (roughly analogous to a 401k) which is paying out now; and a state pension (roughly analogous to SS; worth about $10K in income per year) from age 66 for life.
If people don’t mind the slight hijack, I have a question re SS. I see comments like this
- which make me think, actually, this isn’t the same as a UK state pension. The UKSP is something you pay for via an additional tax (loosely speaking - National Insurance) through your working life. When I hit 66 I get that index linked $10K/yr until I die. You can’t take it early and there is no point in putting off taking it - it wouldn’t pay out at a higher rate as a result, you would just lose the income over the years you deferred (I’m not even sure it’s possible to “defer”). So it appears to be different in some ways to US Social Security. Could someone be kind enough to wise me up regarding SS?
Thanks
j
Those of you with private sector pensions: How many years do you need to work in order to qualify, and at what age can you start receiving the benefits? The US Military recently changed from a pension plan to a 401K/TSP style plan. Those of us with enough time in service were able to be grandfathered into the old system. Luckily for us! The old pension system is far superior for retirees than this new one. The new blended retirement system only benefits the government, and the people who serve, but leave before retirement.
Nothing beats getting 50% of your base salary for life starting at age 38…
First, there's the concept of "full retirement age" which is different depending on your year of birth. It used to be 65 and has been going up two months at a time until it reaches 67 for those born in 1962. The benefit at full retirement age is sort of a baseline- if I start collecting at 62, I will receive less per month , and if I delay collecting until after 67, my benefit will increase until it reaches some maximum. If I am under a certain age ( 70, I think) and still working, my earnings will decrease my monthly benefit if I earn more than a certain amount. I recently estimated my benefits, and I will get about $24K at 62, $34K at 67 and $43K at 70. The differences are of course because I will be collecting that $42K for 8 fewer years than the $24K. Although it's not technically speaking an individual account, this is one of the ways it almost works like one - if I want to spend $X on an annuity that pays out for my lifetime, the further in the future ( and the older I am) that payments start, the larger the payment will be
Thanks doreen, that’s great. One last clarification - once you take SS the payments continue for the rest of your life, right?
(BTW - we also have the full retirement age thing as well, except that the increments are by a year. It starts at 65 and extends out to a max (currently) of 68).
j