Perspective: Preparing for ‘Nonfinancial Shocks’

When The Hartford asked Americans age 45 and older about their retirement plans, two in five said they intended to work longer and delay retirement, or work part time as a way to generate income in retirement. 

The study, conducted in 2010, is a sobering reminder that people’s plans often do not square with reality.

Americans have always been a hard-working and industrious people.  But the fact is that 40% of Americans retire sooner than expected because of poor health, the loss of a job, or the need to care for a spouse or other family member, according to the Society of Actuaries.

Furthermore, three in four couples age 51-61 experience a significant “pre-retirement shock” that can hurt their ability to earn an income and prepare adequately for retirement. Pre-retirement shocks include being stricken by cancer, stroke, heart disease or other debilitating medical problems, caring for frail parents or in-laws, suffering a severe disability or health-related work limitation, losing a job, losing a spouse, or getting divorced.

These “nonfinancial shocks” can come with serious financial consequences.  They simultaneously create immediate and ongoing health care costs while reducing earnings, retarding savings, limiting Social Security benefits, and shrinking employer-provided retirement benefits.

So what can be done to help prepare for or help manage nonfinancial risks that can derail retirement preparedness?  How can Americans plan for a comfortable retirement no matter what the future may bring?

The answer is control.  Financial advisers as well as employers can directly influence how well people prepare for nonfinancial shocks and whether or not those shocks will derail their retirement plans.  Advisers and employers can help deliver a message of empowerment by promoting both fiscal and physical well-being, and by helping people focus on things they can change and influence.

The latest mortality tables show that two of every five men and half of all women will reach age 90.  For the first time in history, many people will actually spend more time retired than in their working years.

Advisers as well as employers that sponsor retirement plans can play a big role in encouraging healthy savings habits earlier in Americans’ working lives.  Employers can really help their employees by providing educational programs on the importance of retirement savings, the long-term benefits of compound interest, the relative advantages of saving before and after taxes, and the basics of investing.

The right design for a defined contribution plan can help form the foundation of financial fitness.  Employers may wish to consider designing plans to automatically enroll employees in their 401(k) or other defined contribution retirement plan. On average, retirement plans that incorporated auto enrollment achieved an 86% participation rate, which is 21% higher than plans that didn’t incorporate it, according to a 2010 study by Aon Hewitt.

Another way to encourage retirement savings is auto-escalation.  Paired with auto-enrollment, auto-escalation annually increases the percentage of salary that employees defer to their retirement plan until they reach a predetermined threshold.  Of course, there are documentation, notification and other administrative requirements associated with auto-enrollment and auto-escalation.

Implementing new formulas for awarding matching retirement plan contributions is yet another way to encourage greater savings.  For instance, instead of providing the typical 50% match on the first 6% of pay, why not match 25% of the first 12% of pay?  The total dollars are the same for the employer but employees need to save more to get their full matching contribution.
Some employers fret that raising the bar on matching contributions could put retirement savings out of reach for lower-paid employees.  Employers can help provide a stepping stool by educating employees about the Savers Credit, which provides up to $1,000 for individuals and $2,000 for couples who meet specific income eligibility requirements and put aside money for retirement.  The credit is available to people with incomes of less than $42,375 and couples with incomes of less than $56,500.  Lower-paid employees who contribute to a 401(k) may actually qualify for both the credit and a match on contributions.

Of course, illness can potentially derail even the best laid plans.  Advisers can echo the messages put out by employer-sponsored wellness programs that encourage workers to eat smarter, exercise more and take better care of their physical fitness.  Doing so can pay real dividends, not only in retirement, but in the preretirement years when many people hope to enjoy their peak earning years.

As America ages and new challenges to retirement emerge, advisers and employers need to find new solutions to help Americans prepare.  For a long time, advisers and others in the retirement-planning game have counseled retirement savers to set goals and to be disciplined in reaching them.  Now, we need to understand that some might not reach those goals because they are forced to “retire” five, 10 or more years earlier than they anticipate.  The message is clear: it’s never too early to prepare but it may be too late.

E. Thomas Foster Jr., Esq., is The Hartford’s national spokesperson for qualified retirement plans. Foster works directly with broker/dealer firms and advisers to help them build their qualified retirement plan business and educate them about industry issues.

This information is written in connection with the promotion or marketing of the matter(s) addressed in this material. This information cannot be used or relied upon for the purpose of avoiding IRS penalties. This material is not intended to provide tax, accounting or legal advice. As with all matters of a tax or legal nature, you should consult your own tax or legal counsel for advice.