No need to mince terms; the three-legged stool is broken.
For years, financial advisors have used that metaphor to talk about the traditional three main sources for retirement funding:
- Social Security
- Employee pensions
- Personal savings
Few private companies today offer pension plans, and the Social Security system is headed for insolvency in 2034, according to the 2016 Social Security trustees report. That's two legs down.
A Little History
The need for a retirement safety net developed in the U.S. along with the shift from an agricultural economy to an industrial economy in the late 1800s. In 1890, only 28% of the population lived in cities, but by 1930 that percentage had doubled to 56%, according to the Social Security Administration.
After the stock market crash of 1929 ushered the economy into the Great Depression, poverty among the elderly increased significantly. The best estimates are that in 1934 over half of the elderly in America lacked sufficient income to be self-supporting. By 1935, 30 states began to implement some form of old-age pension plan. However, these were considered largely inadequate, with the average benefit totaling around 65 cents a day.
The election of President Roosevelt in 1932 opened the door to social-insurance-type economic security proposals. Social insurance was driven by a work-related, contributory system in which workers provided for the future economic security through taxes paid while they were working. This led to the passage of the Social Security Act, which was signed into law by President Roosevelt on August 14, 1935.
Fast-Forward to 2016
The Social Security system is currently under fire and underfunded for its future promises. Left as is, the system is expected to be able to pay out only 75% of its promised benefits in 20 years. Here are some of the proposals being bandied about as a fix:
1. Raise the full retirement age. One proposal suggests raising the full retirement age to 68, from its current 66 or 67 (depending on when you were born).
2. Increase or eliminate the payroll tax cap. The Social Security payroll tax currently applies to annual earnings up to $118,500. Wages above that go untaxed. Some proposals suggest increasing the tax cap or taking it away completely.
3. Reduce benefits for higher earners. The jury is out on whether policymakers will act to address the shortfalls forecast to hit in 2034.
What Does This Mean For You?
At the end of the day, depending on your current age, a statement we are hearing more often, from ordinary citizens to financial professionals, is that it’s probably wise not to count on Social Security as a significant portion of your retirement income.
The funds are expected to be intact for the duration of the baby boomers’ retirement, says Bill Van Sant, managing director at Girard Partners Ltd., a Univest Wealth Management company. But "for those who are younger than baby boomers, two legs of the stool—pensions and Social Security—have the potential to either be extinct or very limited in their ability to help retirees meet their income needs if current conditions continue to persist," Van Sant says.
"Younger investors should expect little to no contribution from Social Security in their retirement planning unless substantial changes are made to Social Security funding, which is a very politically charged process. If there is Social Security available, it will most likely account for less of one’s needed retirement income and not keep pace with a retiree’s rate of inflation," Van Sant says.
"It is imperative that these individuals aggressively fund company retirement 401(k) plans and IRAs to make up for this shortfall," Van Sant concludes.
Time for a Plan?
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