Baby boomers are not renowned for their frugality, having grown up in an era of rapid economic growth, mass consumerism and a feeling that the money faucet will never turn off. In retirement, however, the money can run out — a risk some boomers face as they spend their way too quickly through their retirement accounts, according to a new study from the Center for Retirement Research at Boston College.
That risk is particularly big for younger boomers whose careers came during the age of defined contribution (DC) retirement plans, such as a 401(k), rather than defined benefit (DB) pension plans.
Research shows that retirees with pension plans tended to draw down their financial wealth very slowly. Most of these plans paid benefits for life, and past generations were more likely to reserve part of their wealth for bequests and precautionary savings rather than spending it to finance their own consumption.
In contrast, most new retirees rely on 401(k)s that have a limited amount of funds — and too much of those funds are going to consumer spending rather than longer-term savings.
As the study authors noted, a household retiring with $200,000 in savings and a DB plan would retain $28,000 more wealth at age 70 than a similar household with a 401(k) but no DB plan. By age 75, 401(k) savers had $86,000 less than those who had had a pension.
“One of the advantages of the pension system was that it reassured you how much you could afford to spend, practically, in that it would never run out, and in the advice-sense, too, because it says, ‘Here, you can spend this much, because next month, you’ll get the same amount again.’ A 401(k) doesn’t give you that,” Gal Wettstein, a senior research economist at the Center for Retirement Research at Boston College, told CNBC.
The analysis suggests that many new retirees could deplete their 401(k) assets by age 85, meaning that they face a greater risk of outliving their savings. In this case, they can always fall back on their monthly Social Security checks. But as Wettstein said, “That’s usually not a sufficient replacement for their career-level earnings.”
The obvious solution is for younger boomers to cut back on their spending. Beyond that, there are steps they can take to make a 401(k) last longer.
For example, if you have the financial ability to do so, you can postpone your withdrawal as long as possible. If you reached age 70½ in 2020 or later you don’t have to take your first required minimum distribution (RMD) until April 1 of the year after you reach age 72, according to the IRS.
Another strategy is to reduce your withdrawal rates. Before age 70, the average 401(k) withdrawal is about 1.9% of the account balance each year, US News reported. After age 70, the average annual withdrawal rate is 5.2 percent. Cutting down on the latter percentage can help ensure your savings last longer.
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