The Retirement Crisis Is a Coverage Crisis

For those workers who are offered a retirement savings plan at work, the U.S. retirement system functions pretty well; solutions are needed, however, to extend coverage to millions more Americans.

Art by Simone Virgini

Headlines often say there is a retirement crisis in this country, but in reality it is an impending retirement crisis that sources say policymakers and retirement plan advisers, working with their sponsor clients, can take measures to avoid.

“We have a retirement challenge that is very serious, and if we don’t act, it will migrate from a challenge to a crisis,” says Roger Ferguson, chief executive officer of TIAA in New York. There are three components to this challenge, he says: a coverage gap, a savings gap and a guaranteed income gap.

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Coverage Gap

Among those workers who are offered a retirement savings plan, the system works pretty well, says Lew Minsky, president and CEO of the Defined Contribution Institutional Investment Association (DCIIA) in West Palm Beach, Florida. “But we have to continue to close the retirement savings coverage gap,” Minsky says. “We need to broaden the pool of people who have access to workplace retirement savings plans.”

Only about half of Americans are offered a workplace retirement savings plan, Ferguson says, which means those who are not offered one are going to be totally dependent on Social Security, which he contends will not be enough. This means that employers that currently do not offer a workplace retirement savings plan need to seriously consider doing so, he says.

In many cases, small businesses do not offer retirement plans, and it is difficult for advisers to serve small plans profitably. That is why many retirement plan industry insiders are hopeful that the SECURE Act, which would eliminate the common nexus required of open multiple employer plans (MEPs) and expand eligibility to part-time workers, might encourage more small businesses to make a workplace retirement plan available to their employees and enable advisers to serve this market profitably.

Once a company begins offering a retirement plan, it should automatically enroll participants into the plan at a meaningful deferral rate, 6% or higher, and include automatic escalation, says Jeff Winn, managing partner at International Assets Advisory in Orlando. It is incumbent on plan advisers and sponsors to encourage and enable people to save as much as they can, Winn says.

Eventually, predicts Mike Swann, client portfolio manager, defined contribution team at SEI Investments in Oaks, Pennsylvania, the government will require employers to offer retirement plans and mandate that workers participate in them.

Savings Gap

“Sponsors are really the ones that should be doing the education on the importance of saving for one’s retirement,” Winn says. “They have stepped up to the plate with low-cost investments, primarily due to fee compression, but if there is any area where they are falling down on, it is educating people about the critical need to save adequately for retirement.” Obviously, retirement plan advisers can play a central role in helping sponsors get the word out.

To put this in perspective, the Federal Reserve and the Government Accountability Office (GAO) have estimated the retirement savings shortfall in the U.S. to be between $4 trillion and $7 trillion, Ferguson says.

“A recent GAO report says that 30% of households where the head is between the ages of 55 and 64 have no retirement savings or a defined benefit plan, and among those who do have savings, the median savings is $104,000, which translates into $310 a month in income,” he says. “That tells you the degree to which the savings shortfall is serious. Companies need to help their employees understand the critical need to save, and encourage them to start early.”

Guaranteed Income Gap

Retirement plan advisers also need to help sponsors consider offering in-plan annuities that guarantee lifetime income, Ferguson says. “People are living longer, which means they need to be provided guaranteed income that they cannot outlive,” he says. “More than half of 65-year-old men will live to age 85, and one-third will reach age 90. Two-thirds of 65-year-old women will live to age 85 and half to age 90.”

Ferguson says he is encouraged that the SECURE Act includes a safe harbor provision for in-plan annuities, which he says are the most cost-effective way to purchase them.

“For most Americans, being able to guarantee a level of lifetime income is of nearly paramount importance,” says John Lowell, a partner with October Three in Atlanta. While in-plan annuities are rare, he is hopeful that the increasing discussion about the need for steady, reliable retirement income will lead to plan designs that facilitate in-plan annuities.

Retirement plan advisers and sponsors can also help encourage lawmakers to shore up Social Security, says Ric Edelman, executive chairman of Edelman Financial Engines in Fairfax, Virginia. For those Americans who make $40,000 or less, Social Security will provide a substantial amount of their money in retirement, he says. Those making more will see a lower replacement ratio, potentially much lower.

“The typical American retire gets the bulk of their income from Social Security, and if Congress does not act, in 2035, the benefits will be cut by 23%, meaning that $1,400 a month will become $1,000,” Edelman says. “Should that occur, millions of American retirees would lose their homes and be unable to buy adequate medicine or food. We would face an economic crisis the likes of which we have not seen since the Great Depression.”

This is why Edelman has launched the Funding Our Futures coalition, which advisers and sponsors can join, he says. The coalition, which currently has more than 40 members, is working to educate Americans about how the Social Security trust fund is in danger of being depleted so that they will turn to their Congressional representatives to ask them to take action. “Nobody gets elected cutting Social Security benefits or raising Social Security taxes,” he notes. “We need to create the political will to solve the problem.”