Current Thinking

Pentegra’s Harris Poll Shows Need to Rethink How to Hit Retirement “Magic Number”

A blog by Richard Rausser, CPC, QPA, QKA, Senior Vice President, Pentegra Retirement Services – June 12, 2015

The results from Pentegra’s latest survey conducted by Harris Poll reveals a number of surprising findings, three of which I would like to examine in closer detail in three separate blog posts.

The first of these revolves around the fact that many people have underestimated just how much money they will need to save for a comfortable retirement. The Harris survey reports those who plan to retire (on average at the age of 66, per our survey) believe that they will need approximately $3,200 per month to achieve that goal, while nearly one in five say they will need at least $5,000.

Based on an average household income of $52,000, these figures may seem realistic at first glance, but many people do not consider the additional expenses they may face in their golden years, including cost of living increases and the cost of health insurance – as well as the fact that, as they age, medical issues above and beyond what they face today may well arise.

In short, in order to generate $38,400 per annum (i.e., $3,200 per month) that people believe they need to retire, on would need a portfolio worth approximately $800,000 – a figure that many will not have when they enter retirement. Even a $1 million nest egg, will generate approximately $40,000 per annum … leaving a pretty thin $1,600 buffer.

While the retirement industry has spent the last 20 years advising people how to accumulate retirement savings and reach a “magic number” – in this case $3,200-5,000 per month – many may not ever be able to reach that goal, even with a prudent approach to investing in a properly diversified 401(k) plan. As a result, we must then shift some of the focus from simply “save early, save often” to helping educate people on what to do with their savings when they retire.

How will you actually receive your money from your retirement plan? At what age will you retire, how much do you think you need to live on each month and how can you make sure you don’t run out of money and outlive your savings – even without reaching that “magic number”? Our survey confirms that people need to learn about their options and possible strategies to maximize what they have saved.

The Harris Poll results reveal a lack of understanding and awareness of options available to access one’s retirement savings, including lump sum payouts (with only 24% of those polled “very familiar” with this option), routine quarterly or monthly payments (only 29% very familiar), annuities for themselves (only 23% very familiar), or an annuity for themselves for life and the life of their beneficiaries, (only 17% very familiar) — with one in four people not even aware that this option exists.

As you may have guessed, annuities can be at least part of a solution. As is the case with other annuity benefits realized from an insurance policy, an annuity in this case – again purchased from an insurance company — can be designed to stretch your savings over your lifetime and even possibly allow you to enhance your lifestyle. We call this approach “pension-izing.”

The cost of such an annuity varies, depending on your age, sex, and whether or not you name a beneficiary. Based on current life expectancies, if you are currently 66, you can expect to live another 24 years. Insurance companies price their products on the average mortality rate, so purchasing an annuity at this stage of your life can make sense financially in a number of ways. (Someone who is currently 40 years old – and facing that same life expectancy of 90 – will pay a significantly higher premium now to receive the same level of income later.)

To put it even more simply: If you are 66 years old today, you will need to draw 4 percent annually from a base of $96,000 to reach the magic number of $3,200 per month. If you purchase an annuity, however, you will need just $570,000 to achieve that same monthly income figure. Even better, you can structure the annuity so that the payments will continue to your beneficiary for his or her lifetime should you predecease them.

Annuities can be structured in a number of ways: There is an immediate annuity, which typically starts paying within 12 months; and a deferred annuity, which starts paying at an agreed-upon date, usually five to 10 years in the future.

The downside of the annuity is that it is less flexible than if you take your payment directly from your portfolio. (In addition, there is always the possibility that you may not reach the average life expectancy … but then that is the case with any life insurance policy.)

This leads inevitably to other distribution strategies that can be applied when it comes to retiring – strategies that I will discuss in my next post.