Someone is a decade or less from retirement. He or she wants to retire at age 62 but lacks sufficient resources.
This is a problem many people are facing and they bring the problem to advisors.
“I’ve had clients who had the retirement bug and I had to tread very carefully with them. Sometimes clients come back several times and they want to be told they can retire but they can’t,” says Charles Hughes, a veteran certified financial planner (CFP) in Bay Shore, New York.
A Goal Too Far
Today the problem for millions of Americans is their retirement saving goal seems out of reach; sometimes far out of reach.
“The majority of Americans have less than $30,000 saved, and a third of Americans have nothing at all,” writes economist Teresa Ghilarducci in “How to Retire with Enough Money and How to Know What Enough Is.”
“It is an enormous shortfall,” she writes.
Just Don’t Do It
This is a problem that confronts many people and their advisors may have a simple solution: Don’t do it. Put it off for a while, which is not the kind of advice many longtime clients want to hear.
Chris Costello, a CFP in Leawood, Kansas, detests having to make the delayed retirement recommendation. This is in part because his father died in his early 60s and he wasn’t able to enjoy a good retirement. Nevertheless, Costello concedes that sometimes the best retirement planning advice is wait until next year to retire or possibly the year after that. Then retirement goals can often be reached.
“This extra work can have the dual effect of giving you more time to fund retirement accounts and, to put it bluntly, it shortens the amount of time your retirement savings need to carry you,” he adds.
These advisers have new documentation to support their candid assessments. A recent study says that sometimes the best answer to making your client’s retirement plan work is simple: Delay tapping the retirement nest egg. Continue to add to it for a while by staying on the job.
The Power of Work
A National Bureau of Economic Research (NBER) Study, “The Power of Working Longer,” quantified the advantages of staying in the workforce beyond age 62, the age at which someone can collect early Social Security but at a reduced payment rate.
Looking at average one and two earner households saving for retirement from age 36 to 62 and contributing nine percent to a qualified retirement plan—six percent combined with an employer match of three percent—the study found delaying retirement for anywhere from one to eight years has a “dramatic effect” on retirement savings.
“Primary earners age 62 to 69 can substantially increase their retirement standard of living by working longer,” the study said in several illustrations.
“For example, retiring at 66 instead of 62 increases retirement income by one third.” The study’s authors argue that “no reasonable amount of additional saving could impact the retirement standard of living so significantly.”
Lots of Pluses
Delaying retirement is a multi-faceted plus, according to the study. The delay reduces the targeted retirement number but working longer also has another positive effect: One needs to provide for fewer years. The potential retiree is also allowing the compounding effect of his or her savings to go on a little longer before he or she starts drawing from it.
This extended compounding, along with bigger Social Security payments as one delays collecting, can have a huge effect on the amount of retirement savings, according to the study.
The study examined the case of various households seeking to achieve retirement saving goals. It found that most income groups benefit from delayed retirement, but that those with lower incomes benefit more by staying around the office a little longer.
What happens to one’s retirement income if someone doesn’t retire at age 62 and doesn’t take early Social Security? The average person’s projected retirement income would increase about 6.70 percent with a year’s delay. However, extend it a little more and the retirement income pictures brightens.
If the person or persons wait four years to retire, then retirement income grows by a third, according to the study. And if one waits until age 70 to retire, then retirement income is raised dramatically, the study says.
This delay retirement and earn more method can have a powerful effect in increasing “the retirement standard of living,” according to the study.
Some advisors say they don’t like to disappoint clients; telling them that you’re still not ready to retire comfortably. Still, many will embrace the logic of the delayed retirement study.
“The numbers can be compelling,” says Hughes, noting it can increase savings but also reduce the costs of early retirement. For instance, he notes that retiring early at age 62 can also trigger higher medical costs since an employer is usually no longer paying medical costs and Medicare might still be three years away.
Nevertheless, Hughes emphasizes that each client is unique; that some are determined to retire early no matter what the advisor says. However, he agrees that a little more work, can, under the right circumstances, make sense.
Another Option Between Retire or Not?
Another advisor agrees with the study. Still, he and other planning professionals say there is also a middle ground in the retire or not to retire early debate.
Anthony Ogorek, a certified financial planner in the suburbs of Buffalo, New York, says some people by their late 50s can no longer take the nine to five grinds, but haven’t accumulated enough to retire comfortably. These clients can make things worse, he warns.
Some clients, he warns, start reaching too far by “putting too much pressure on their retirement portfolio.”
Besides sticking it out a few more years in a stressful job or trying to use riskier investments to reach goals, he adds there is another choice.
“Clients,” Ogorek notes, “will sometimes say I can’t continue to do this job at the pace that I am doing it. So one of the things we suggest is, if you had the chance to restructure your responsibilities, would you then be amenable to working longer?”
Ogorek says this is sometimes the best option for those who haven’t saved enough but don’t want full-time work.
“In other words, we would create a job that you are comfortable doing, that person might be willing to do it longer,” Ogorek says. He adds that employers often agree with letting the long time employee cutback. That’s because they don’t lose the employee’s expertise and the employee can work as a mentor to young workers.
It’s the Power of Compounding
Obviously, the longer the delay, the more likely one is to reach a retirement goal. That’s because, Hughes contends, it is the extension of the power of compounding over years that makes a big difference (Please see notes “Working A Bit Longer and the Qualified Retirement Account”).
But even just a few months delay can help, according to the study.
“The basic result is that delaying retirement by 3-6 months has the same impact on the retirement standard of living as saving an additional one percent point of labor earnings for 30 years,” according to the study.
Saving for a few months or a few years longer along with letting the compounding effect continue a bit longer are some of the key strategies, the NBER study argues, in helping those who started late in retirement planning to catch up.
These additional years, NBER argues, will be more effective than just switching to a better kind of investment in the last few years before retirement. For many close to retirement, whether single or two earner households, the best option is delay, the study says.
Getting Better with Age
“Our key insight is that some decisions, such as how much to save in retirement accounts going forward, become less powerful at older ages in changing the affordable retirement standard of living. Saving an additional one percent of earnings, for instance, would affect the retirement standard of living much more at age 36 than at age 56,” NBER writes.
“Similarly, the impact of choosing cost-efficient assets—something financial planners often emphasize to increase retirement resources—diminishes with age since there are fewer years to enjoy the benefit of a lower cost portfolio.”
By contrast, the study concludes, delayed Social Security and delayed retirement savings drawdowns are much more effective for those close to retirement regardless of one’s income. The study “suggests that working eight additional years will increase retirement income by at least 40 percent” and in some cases “above 100 percent.”
Working a Bit Longer and the Qualified Retirement Account
Gimme that old time compounding!
Even without the added boost of greater Social Security payments, the effect of saving five years longer in a qualified retirement account could be huge.
Say a client saves $500 a month in a qualified account and obtains the long term market rate of return, nine percent. After thirty years he has $922,937.
But if this client, can work five years more, and saves at the same rate, $500 a month, and gets the same nine percent, there is a big difference. The additional five years produces about $560,000 more ($1,481,924 versus $922,937).