As an economist, it’s not in my DNA to pull punches. So, I’ll be blunt: For most Americans, early retirement isn’t just a decision to take the longest vacation of their lives — it’s one of the biggest money mistakes they’ll regret.
The reason is simple: we are lousy savers as a group, making early retirement unaffordable. Financially, it is generally much safer and much wiser to retire later.
According to a report from the Boston College Center for Retirement Research, half of today’s working families risk a significant decline in living standards in retirement. If all workers were to retire two years later, the proportion would drop by around 50%.
Of course, there are situations when early retirement is a good option. Some people have planned carefully and can afford to buy more free time. Many have no choice; they are running out of physical or mental strength. Others find their jobs automated or outsourced.
Yet nearly two-thirds of people aged 57-66 voluntarily decide to take early retirement despite having next to nothing saved. And most of them are able to work with no disabilities that would prevent them from staying in the job.
The baby boomer pension debacle
Take the baby boomer generation, who are retiring in droves. Almost half of it have little or no savings.
In fact, their average net worth is just $144,000 — less than three years of average household spending. If they had significant private, state, or local pensions to rely on, things would be better. They don’t.
Less than 1 in 3 have a pension alongside Social Security. As for pensioners, many had state and local agencies that were not covered by Social Security.
Worse, those receiving such pensions may lose most or all of the Social Security benefits earned from part-time employment in insured employment due to Social Security’s windfall-eliminating provisions and state pension accounting.
Social security is nothing special
In fact, about 85% should wait to 70 to pick up. Adjusted for inflation, the 70-year pension is 76% higher than, for example, the 62-year pension.
Additionally, when Americans take their Social Security retirement benefits far too early, they may condemn their spouses or ex-spouses (to whom they have been married for a decade or more) to far lower widow’s and divorced widow’s benefits.
You cannot rely on the time of death
The failure of most of us to save reflects an incorrect focus on life expectancy, which is routinely used to set one’s planning horizon. Half of those in their 50s will be over 80 years old. A quarter live to be 90 years old.
To understand what reasonable saving really entails, take Jane, a single 40-year-old Louisian. Jane, who plans to retire at 62 and be on Social Security, makes $75,000 a year and has $150,000 in her savings account — an inheritance from a wealthy uncle.
Jane could live to be 100 years old. Like the rest of us, Jane cannot expect to die in time. She must plan to live to her maximum age because she might.
Jane didn’t save anything. She counts on Social Security and her 401(k) with a $150,000 balance, to which she and her employer contribute 3% annually to sustain her retirement. Jane is miles from the base. Her retirement might last longer than she works. When she turns 100, she’ll need to save 28% of her net salary every year until retirement!
What if Jane gets Social Security at 70? Good move! This increases their lifetime spending by over 10% and lowers their required pre-retirement savings rate to 16%. And if she risks dying young and plans to drop her standard of living by 1.5% a year from the age of 80? Now her required savings rate is 13%.
Unfortunately, Jane saves nothing. If she keeps doing this, her standard of living after retirement will be half what it was before retirement!
Despite this, Jane is actually in better shape than many others. About a third of private sector workers do not have a retirement plan. And a quarter of those who don’t don’t even participate to the point of receiving their free Employer Match.
The answer is to delay retirement
How to save the retirement of the unrescuing Jane? When Jane retires at 70 and is on Social Security, she doesn’t have to save herself. And their life expenses will increase by a third!
Yes, this is a risky strategy. Jane could be disabled. Or she could be fired. But if she refuses to save a ton and doesn’t want to face severe financial hardship in retirement, her only answer is to keep working.
As for me, I just turned 71. Fortunately, I have a job and can continue doing research, writing books and columns, and teaching. My current plan is to die in the saddle. My work is just too rewarding—financially, intellectually, and psychologically—to give up.
Laurence J Kotlikoffis an economics professor and author of“Money Magic: An Economist’s Secrets to More Money, Less Risk, and a Better Life.”He received his Ph.D. from Harvard University in 1977. His columns have appeared in The New York Times, WSJ, Bloomberg, and The Financial Times. In 2014, The Economist named him one of the 25 most influential economists in the world. Follow Laurence on Twitter@Kotlikoff.
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