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Retirement planning for a post-pension world

As Americans move from defined-benefit pensions to defined-contribution plans, many households seem poorly positioned for retirement. According to the Federal Reserve's 2013 Survey of Consumer Finances, households in the 55 to 64 age group have median 401(k) and IRA savings of just $111,000.

Even those with seemingly huge 401(k) balances may not be poised for a decadent post-retirement lifestyle. "The reality is that if you're one of the lucky few with $1 million in your 401(k) plan, you can probably draw on the order of $40,000 a year out of that plan," says Anthony Webb, a senior research economist at Boston College's Center for Retirement Research.

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The current average Social Security benefit is only $1,192, and this amount will fall in the future as the ratio of workers paying in to the system declines, says Gerald Scheinker, executive vice president, Scheinker Investment Partners of Janney Montgomery Scott, LLC, in Baltimore. "You need to systematically invest from a very young age to combat this. If the unexpected happens, a well-constructed retirement savings plan can help you stay on track to meet your retirement income needs."

But things may not be as hopeless as they first appear for the majority of workers. The 2013 National Retirement Risk Index from the Center for Retirement Research, which is calculated using a retirement age of 65, estimates that 52 percent of households are at risk of not being able to maintain their standard of living in retirement. This doesn't mean that these households will end up impoverished – just that they may need to plan for a later retirement.

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"If you want to retire at age 62, you have to save a lot more than if you want to retire at age 70," Webb says. "If you have a household or an individual in their 40s or 50s who really hasn't saved very much, telling them to save 20 or 30 percent of their salary to retire at age 62 is really not helpful advice, because they're not going to do it."

Instead, aiming for a later retirement might be more practical, particularly given today's life expectancies. "A common mistake people make is failing to recognize how long they may be retired," says James Poterba, an MIT economics professor and the president and CEO of the National Bureau for Economic Research. "For a married couple today in which both the husband and wife are 65 years old, there is an almost even-money chance that one of them will live to age 90. That corresponds to a retirement period of 25 years."

"Most baby boomers don't retire like their parents retired," says Pamela Gilmour, CPA, CFP®, RICP®, CEO of Financial Fitness in Towson. "They may partially retire from their current employer, choose a job with less money but much less stress, or even volunteer.

"We have a much longer life expectancy than previous generations, and we have to assess not only how much money we'll need to live out our lives but how we want to live those additional years," Gilmour continues.

Because Social Security is indexed to price changes, it can provide a tremendous hedge against the financial risks of unexpected longevity for those who haven't saved enough. But its potential advantages in this scenario are most compelling to those who hold off claiming benefits.

As Webb notes, someone who would receive a $1,000 monthly Social Security upon retirement at 66 would receive just $750 per month for retiring at 62, but $1,320 per month for waiting until 70 to claim benefits. "That's a 76 percent increase," Webb says. "And it puts a floor under which the household's income cannot fall irrespective of how long it lives or how badly its investments do."

When it comes to Social Security, as of November 2, 2015, there have been significant changes to the marital benefits, and couples need to rethink their strategies, says Gilmour. In short, under new rules, unless you are eligible for "grandfathering," one can no longer claim a spousal benefit before the worker begins to receive his benefit, nor may a married or divorced individual claim a spousal benefit and subsequently change it to the worker's benefit. Choosing when to claim benefits is complicated and an important decision and one should contact an advisor trained in these strategies.

If you own a home, however, Social Security may still be an important part of your retirement planning, according to Michael Hurd, a senior principal researcher for the RAND Corporation, who views Social Security as the best annuity there is. "If people deny claiming until age 70 and own their own house, most would need not all that much more to live adequately in retirement," Hurd says.

Households that retire at 70 also benefit from greater 401(k) accrual, and can draw down their assets more aggressively when they do retire. "It may not be the message that households want to hear," Webb says. "But it may be a lot more palatable than the alternative."

Planning to work later is not without its risks, and may be impossible for those in physically demanding occupations. But it's a more reasonable option today than it ever has been. "As a whole, today's 65-year-olds are healthier than their counterparts in past decades. They are probably more able to engage in labor market activity than their predecessors," Webb says.

Health insurance is an important consideration when planning for retirement, says Gilmour, as it's one of the most expensive items in the budget. And long-term care insurance shouldn't be overlooked as well, Gilmour adds. "It's always better to have insurance, as that will lessen your expenses should a medical event occur."

"It's estimated that four out of every 10 people turning age 65 will use a nursing home at some point in their lives. Plan for the unexpected," concurs Gerald Scheinker.

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Scheinker adds that senior citizens spend 17 percent of their Social Security on health care. "We can't depend on Social Security as our only income source," he says, "so build up your personal savings rate now."

Other policies to review include liability if you still own a home and/or car, and life insurance, says Gilmour.

According to Webb, those who do wish to work longer should focus on their career management as much as their health. They should let their employer know they're planning on working until an older age, keep up with new developments in their field, and be flexible. Workers approaching retirement age also should weigh the decision to retire carefully.

"If you do decide to quit and try to come back into the labor market after a year or so, your opportunities may be very, very limited indeed," Webb says. "For those approaching retirement, this can be an irrevocable decision that really shouldn't be taken on a whim."

"Today's retiree is likely to live 20 or more years after retiring," says Scheinker. "Can you truly afford to retire? You will need even more than you thought, so save and invest wisely.

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