Remember the old adage of the three-legged stool of retirement income: Social Security, employer pension, and personal savings? Given the changes in employment and the economy over the last 25 years, is there still any merit to that concept or will it lead you to become a casualty of fiscal irresponsibility? In my opinion, the general idea of retirement income needing to stem from multiple sources holds up. But the sources have changed over time. I see Social Security (perhaps at a reduced rate), employer-provided/employee and employer-funded 401(k), and personal savings as the new retirement income legs to stand on.
A High Percentage of Older Americans Rely Solely on Social Security for Income
No, I don’t think it’s time to scratch Social Security off the list. There are differing statistics about what percentage of older Americans rely solely on Social Security as their source of income, but it ranges from 30-40%. When the doomsday predictors moan about Social Security falling off a cliff in the next decade, do they really think the US government would let a social program that is 30-40% of our senior citizen population’s sole source of income vanish? Can you imagine the socio-economic impact that would have on our country? Let’s face it, that’s simply not going to happen. No politician wants to be the bad guy now and raise Social Security taxes (the easiest fix) or raise the retirement age. However, right before the system implodes, someone will swoop in and do just that and be lauded as a hero all due to timing. So that’s a check for Box #1 – Social Security. If you’re risk averse, maybe have your advisor run your financial plan with a 20% cut to your benefit so you can see what a reduction would mean for your unique financial picture.
401k Plans Can Decrease the Need for Social Security
Next is the employer provided 401(k) plan. Most employers now auto-enroll eligible employees, so that helps get the ball rolling. This is the age of financial independence where you control your own destiny. Social Security was originally designed to only replace 40% of a worker’s pre-retirement income. Our country’s dependency on Social Security is out of whack in the first place. The new tool for retirement savings is the 401(k) or 403(b) plan, the defined benefit pension plan has been left in the dust. Embrace the mantras of “pay yourself first” by sending off that 401(k) contribution before it hits your checking account and “take the free money” by always contributing enough on your own to get the full employer match. Another check for Box #2 – 401(k) plans.
Saving Can Provide Freedom During Retirement
Finally, there has been and always will be a personal savings component to retirement income. This is the best part of the retirement income stool. There are no income limits, no phase outs, and no distribution requirements. Saving on your own to a taxable brokerage account is what provides you freedom in retirement. This means freedom from calculating ordinary income taxes when withdrawing from a 401(k) or IRA. The only tax you’ll pay when withdrawing from a taxable account is capital gains tax on the appreciation. Capital gains are taxed at preferred rates beginning at 0% up to 20%. A taxable brokerage account can also be a great way to fund an early retirement if you need to fund living expenses at a young retirement age before drawing Social Security. So, personal savings in taxable brokerage accounts checks the final box.
As I tell my clients, we can only focus on the set of facts known to us today. For now, Social Security is in place. It isn’t the government’s intention to phase out the program, so it is likely to get a Band-Aid right before implosion and life will go on. As individuals, we cannot fix Social Security, but we can control our 401(k) and other personal savings accounts. Focusing on what is in the realm of your control and maximizing those sources of retirement income are the best and most sure ways to prepare well for your future retirement.
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