Retirement has become more frustrating than a Rubik’s Cube. Here’s how to solve the puzzle

It’s unfortunate that retirement has become a Rubik’s Cube for most Americans. So many factors impact how much one is able to save during their working years, and there are even more considerations as one tries to spend down their nest egg so they don’t run out of money. From stock-market volatility to fluctuating interest rates to escalating health, housing and long-term care costs, retirement is fast becoming an unsolvable puzzle for most Americans. 

Making matters worse is the COVID-19 pandemic. Putting aside the health concerns, the economic damage from the pandemic has been hard on many Americans and continues to linger because the U.S. lags other countries in beating back the virus. Tens of millions of Americans have lost jobs in 2020 and are receiving unemployment insurance. An eviction crisis is looming and food banks are facing unprecedented demand. Retirement prospects have been worsened thanks to lost jobs and cashed-out savings. As with so many of these issues, the reality is that retirement security for working Americans was already weak before the pandemic struck.

More risk, less reward

A new report details the growing burden facing working Americans as they struggle to plan for retirement. As the report documents, it is not reasonable to expect individual workers to manage all of these risks on their own.

The burden of greater risk is clearly illustrated by the move from defined benefit pensions to defined contribution plans, such as 401(k)s. Retirement plan coverage at work has never been universal. Even in the heyday of corporate pension plans, only about one-third of working Americans participated in a defined benefit plan. Still, for those workers who did participate in a pension, much of the burden of saving and investing for retirement was off their shoulders. One of the strengths of a defined benefit plan is that it pools risk collectively across a large group of people, so market timing risk, interest rate risk and longevity risk are all borne collectively, rather than individually. Moreover, professionals such as actuaries and investment managers can make fairly accurate predictions about a large group of people, such as the average lifespan of people of a certain age, gender, and profession. These predictions are impossible to make individually, making the retirement puzzle so difficult.

Two issues highlighted in the report are key. The first is low interest rates. While good for borrowers, low interest rates hurt savers and retirees looking to generate income from relatively safe investments. In the 1980s, savers could expect double-digit returns from 10-year Treasury bonds; today, the yield on a 10-year Treasury is less than 1%. This forces retirees to either lose income or invest in riskier assets during the drawdown stage.

The second issue is the enormous disadvantage associated with a late start to saving for retirement. The report calculates a baseline savings projection with savings beginning at age 25 and a second projection with savings beginning at age 40. Under the late start scenario, the worker ends up making 78% of the total retirement contributions but loses 60% of the investment returns. The late-start saver ends up with retirement savings that are half that of the baseline scenario saver at retirement. It also means that savings-based retirement systems will not be efficient if people are not covered and contributing at an early age. Unfortunately, two-thirds of millennials have saved nothing for retirement.

The retirement puzzle is further complicated by long-term care costs, which loom as a major retirement burden for which few people are planning. While the majority of older Americans will need some form of long-term care during their lives, the costs retirees face varies widely:  About half will never pay for these services, but one-in-seven will spend more than $250,000. Medicaid has become the single-largest payer of long-term care costs in the United States. But applying for Medicaid long-term care coverage is often a complicated, time-consuming process, and something many families will struggle with.

Long-term care does not need to be complicated and burdensome. This is a problem that cries out for a forward-looking social insurance solution. In fact, that is exactly the model that Washington State is currently pursuing. Beginning in 2022, Washington workers will pay $0.58 for every $100 earned through a payroll deduction. After a worker meets the vesting requirements, they will have access to a benefit worth $100/day for a year or a total of $36,500 in today’s dollars — starting in 2025. This benefit cap will rise with inflation and the benefit can be used for almost anything associated with long-term care, including home modifications, home health aides, and nursing home stays. This will reduce Medicaid costs, and likely result in more people choosing home-based care that seniors often prefer. And it costs less.

Yet another complex part of the retirement puzzle relates to the trends for healthcare and housing costs, which like long-term care costs are moving in the wrong direction. Healthcare costs continue to rise for all Americans, and older Americans tend to have higher healthcare costs that increase as they age due to chronic health conditions. These rising costs are a challenge for those who often live on fixed incomes. At the same time, more older Americans are carrying mortgage debt into retirement. According to the Harvard Joint Center for Housing Studies, 46% of older Americans had mortgage debt in 2016 compared to 24% 30 years ago. Homeownership among older Americans also has declined and will likely continue to decline as fewer near-retirement adults (50-to-64 year olds) own homes than those 65 and older.

Rising risks and costs coupled with the COVID-19 recession make it clear we’re on a path to a predictable and unfortunate outcome — millions of working Americans unable to meet their basic needs in retirement. Retirement is getting harder despite the experience of experts who know how to solve this puzzle. Absent a serious rebuilding of America’s retirement infrastructure, these systemic problems will be unsurmountable for too many families. Instead, policymakers must take steps now to build forward-looking solutions that enable Americans to be self-sufficient as they age. Otherwise, older Americans will be forced to turn to their families or government programs to meet their most basic needs. That is a burdensome, costly and unsustainable approach. With commitment, we can solve this puzzle.   

Dan Doonan serves as executive director of the National Institute on Retirement Security, a nonprofit, nonpartisan organization established to contribute to informed policymaking by fostering a deep understanding of the value of retirement security to employees, employers and the economy as a whole.

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