According to a 2015 survey by the National Institute on Retirement Security, 86% of Americans “believe that the nation faces a retirement crisis.” And labor economist Teresa Ghilarducci thinks they are right. “If nothing changes, by 2050, 25 million American retirees will be either in poverty or very close to it. It’s no wonder that 84% of Americans want national policymakers to give more attention to retirement issues,” she says.
That’s why Ghilarducci, a professor at The New School for Social Research and the Director of The New School’s Retirement Equity Lab partnered with the president and chief operating officer of The Blackstone Group, Hamilton (Tony) E. James to write a research paper outlining a comprehensive plan to confront the retirement savings crisis.
Recently EBA talked with Ghilarducci about their proposal for the “Retirement Savings Plan” – a national retirement system she says is so simple it could be enacted tomorrow.
EBA: Why do you think the current retirement savings system in the U.S. is “broken”?
Ghilarducci: The system is just an inefficient patchwork of programs. Today only 15% of workers – mostly government employees – have access to defined benefit plans. About 53% of private sector workers can make use of 401(k) plans but they depend on voluntary individual contributions by workers which they may or may not make throughout their lives.
These contributions are often not consistently matched by employers, and 401(k) plans also earn subpar returns on these insufficient savings because of high fees and a structural bias towards short-term liquid stocks and bonds. In addition, another 40% of private sector workers do not have access to any employer retirement plan. And even for sophisticated retirees, the current system offers no cost-effective means to convert retirement savings into life-long income.
EBA: You are proposing under the RSP that all those who don’t have access to a workplace pension plan be enrolled into a Guaranteed Retirement Account. Who would be eligible for the plan?
Ghilarducci: This system would require all businesses with over five employees to provide a pension or the GRA. The GRA features the smallest costs, so we presume that most businesses will choose this option. And by waiving employer contributions for businesses with fewer than five employees, we are providing a safe haven for small business. Those with 401(k)s and all other plans would roll their savings over to a more suitable GRA. This includes part-time and self-employed workers.
EBA: How does the plan work? Who contributes and how much?
Ghilarducci: The RSP is in addition to but not a replacement for Social Security. Workers now save 12.5% of their income through Social Security. We believe an additional 3%, which may increase over time, per year split between employers and employees, invested properly and earning an annual return will allow people to retire with some comfort. Although we acknowledge this may be a politically loaded approach, we believe savings must be compulsory with no permissible withdrawals before retirement to provide future Americans with the money they need for retirement.
EBA: Where will employees and employers find the money to fund GRAs?
Ghilarducci: We are suggesting that current employee tax deductions for retirement plan contributions be converted to a refundable tax credit of $600 for every worker, rich or poor. This would essentially cover contributions for households with income below $40,000/year.
For a family earning the median income of $45,000 a year, the effective cost of retirement security would be just $75 per year to get $675 in their account. The obligation to contribute for high-income workers would be capped, as it is in Social Security. The RSP would only require contributions of 1.5% of the first $250,000 of an individual’s annual compensation, after which they would not need to make further contributions to their GRA.
The 1.5% contribution for most employers will be largely offset by no longer having to administer or contribute to other retirement plans.
EBN: How is the money invested? What kind of returns can an individual expect in their account?
Ghilarducci: Each person’s guaranteed retirement account would be legally owned by the specific person. But that money would be invested as part of pooled assets, combining his/her retirement savings with other GRAs across the country. Individual holders would select their “GRA pension manager” based on fees and investment performance. Accounts would be fully portable and the assets would transfer based on the account balance. The GRA pool could be invested in opportunities typically reserved for institutional investor, that is, less liquid, higher return asset classes like real estate and infrastructure.
What’s more, the GRAs would be risk free. At the time of an individual’s retirement, the federal government would guarantee that each individual has earned a minimum return of 2%. This is a one-time test when the GRA is being annuitized. However, the minimum cumulative return does not protect the GRA from losses in any single year or even in multiple years. It simply means that over the 40 to 50-year lifespan of the account, the worker would be entitled to a minimum compounded return of at least 2% on their contributions over that period.
EBA: What happens at retirement? Can individuals cash out the lump sum in their GRA?
Ghilarducci: No. The RSP would automatically annuitize everyone’s accumulated savings when they retire or become disabled. Individuals then receive a guaranteed amount based on their savings for as long as they live. Individuals would be able to annuitize their GRA at the age of disability, at 62 — Social Security’s early retirement age — or at any age up until age 70 when Social Security benefits are at their maximum.
Furthermore, individuals could annuitize their GRA without collecting Social Security. This makes waiting to collect Social Security in order to get a higher benefit affordable. If a retiree returns to work, he or she would start a new GRA, while continuing to receive the old annuity payments.
Worker annuities would take into account their age and family structure at the date of retirement. A single, older retiree would get larger annual payments than a younger couple from the same GRA balance. This approach means every worker gets the full value of their GRA, taking into account their particular circumstances.
EBA: Is there a model for your proposed new RSP or is it a completely new plan design?
Ghilarducci: Our approach has much in common with cash balance plans and the very successful TIAA-CREFF plan which was founded by philanthropist Andrew Carnegie in 1918. Today TIAA-CREFF offers a full range of financial services, including retirement plans, IRAs, mutual funds, brokerage services, life insurance, and education savings plans too individuals and institutions in the academic, medical, governmental, research and cultural fields.
EBN: Some states such as California, Connecticut, Illinois and Oregon have enacted state-sponsored plans. Why isn’t this enough?
Ghilarducci: While these efforts are admirable, there are several reasons why a true solution must be a national one. Retirement savings must be portable and consistent across state lines. The RSP is also tied to federal taxation by redeploying federal tax deductions into federal tax credits, and uses the Social Security infrastructure for its administration. What’s more, the economies of scale of a nationwide plan make the entire system cheaper to administer and likely to generate a significantly higher return for savers. Finally, federal action mitigates the risk of states that enact retirement plans putting themselves at a competitive disadvantage in relation to other states that do not have retirement plans.
EBA: Is this plan politically feasible?
Ghilarducci: We believe that this plan addresses the concerns of Americans about retirement savings and it has the benefits of simplicity, efficiency, sustainability and low overhead that makes use of existing government infrastructure. In terms of political viability this plan intentionally does not attempt to alter Social Security, address underemployment, mitigate wealth disparity or raise stagnant middle class incomes. It shouldn’t concern 401(k) vendors because it is primarily directed at people who currently have no retirement savings plan. Also, think bigger, well-run 401(k) vendors will offer GRAs and manage pooled investments creating what I would call “a regulated oligopoly.”
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