During much of the 20th century, two types of retirement income — Social Security and traditional employer-provided pensions — helped American retirees to avoid poverty and maintain a decent standard of living.
Social Security is still the sole source of retirement income for half of all retirees and the primary source of income for two-thirds of all retirees. Fortunately, Democrats have so far fended off attacks on Social Security from the Bush administration and others who would like to privatize it, turning it into a gamble for retirees instead of a sure thing.
For at least two decades, however, traditional pension plans, which pay a fixed monthly amount at retirement based on age and years of service, have been vanishing. Twenty million active workers participate in traditional pension plans; in 1980, that number was approximately 30 million. Since 2001, the number of Fortune 1000 companies that have frozen or terminated their traditional employee pension plans has more than tripled.
As employers continue to dump their workers’ pension plans, leading to deep benefit cuts for many workers, the importance of Social Security and other retirement savings, including 401(k)s and individual retirement accounts, has become clearer.
The number of Americans with 401(k)-style retirement savings plans has skyrocketed since the 1980s. These plans originally were intended to supplement workers’ main source of retirement income, not to supplant it. This is evident from the fact that the median 401(k) account balance is just $22,800 — hardly enough to get a retiree through just one year of retirement. The picture is not much better among workers now nearing retirement, for whom the median 401(k) account balance is just $50,000.
Still, today 50 million workers have 401(k)-style plans. Nearly two-thirds of private sector workers who have a pension have a 401(k) — and only a 401(k).
Given this increasing reliance on 401(k)-style plans to finance retirement, we must act to dramatically boost coverage and savings in these plans. For starters, we must ensure that all workers with a 401(k) plan are getting the best possible deal for their investment dollars.
We have our work cut out for us. According to a report from the Government Accountability Office, today’s youngest workers — those who will be retiring in the 2050s — will have saved only enough money in their retirement accounts to replace an average of 22 percent of their pre-retirement income. Experts generally recommend that workers retire with an annual income equal to about 80 percent of their pre-retirement income. Even when today’s young workers add in Social Security benefits, they’re not going to be close to that 80 percent threshold.
Just as alarming, the GAO projects that 37 percent of workers born in 1990 will reach retirement age in the 2050s with no retirement savings whatsoever. This is unacceptable. Unless we act now, today’s workers will more likely struggle to make ends meet during retirement than did previous generations.
It is critical that retirement plans provide the best possible deals for all participants. Unfortunately, many 401(k)-style plans charge hidden fees that can cut deeply into workers’ retirement savings.
At a hearing last year, the GAO told us that weak fee-disclosure requirements under current law are putting American workers’ retirement savings at risk. According to the GAO, 80 percent of workers were not aware of the fees that were being taken out of their accounts. The negative consequences of these hidden fees can be significant. According to the GAO, a 1 percentage-point increase in fees could cut retirement income by almost 20 percent over 20 years.
Some fees may be reasonable and necessary. Yet without clear and complete information about what fees they are being charged and why, employers and employees simply cannot shop around for the best deals.
In addition, many workers have 401(k) plans that do not offer them the ability to invest their savings in low-cost index funds. Unlike mutual funds, index funds are not actively managed and therefore carry lower investment fees — even though, more often than not, they achieve higher investment returns than actively managed funds.
Last year, I introduced the 401(k) Fair Disclosure for Retirement Security Act. The bill would require 401(k) plans to disclose in clear and simple terms all the fees that they are charging to plan participants. The legislation would also require that 401(k) plans provide workers with key information on investment options and their risk and returns.
The legislation would also require employers to offer at least one low-cost index fund as an investment option. As a first step toward bringing the private pension system into the new century, I hope to mark up this legislation in my committee early this year.
The GAO and a number of think tanks and other organizations have proposed other ideas for boosting 401(k) participation and savings that merit serious consideration.
For example, instant eligibility for and participation in a retirement savings plan can significantly decrease the number of workers with no 401(k) savings and increase the amount of savings available for retirement at all income levels.
When the GAO projected what would happen with instant eligibility and automatic enrollment, it found that the share of workers with no retirement savings decreased from 37 percent to 18 percent. Among low-income workers, the share of those without savings also dramatically decreased from 63 percent to 30 percent. The average income-replacement rate for low-income workers more than doubled, from 10 percent to 25 percent, and rose to 35 percent for all income groups.
Another idea, automatically rolling over retirement savings into a new retirement plan when workers leave a job, would boost projected retirement savings by an average of 11 percent, with the biggest percentage increases for low-income workers, the GAO reported.
While Social Security faces long-term challenges that must be addressed, the real retirement security crisis is clearly the lack of savings in private retirement plans. And it’s a crisis we must tackle. After a lifetime of hard work, retirees should be able to move on to a new phase in their lives — where they can spend time with family and friends without having to sacrifice their standard of living. Unless we reform the private pension system, that is the kind of retirement that millions of Americans will miss out on.
Rep. George Miller (D-Calif.) is chairman of the Education and Labor Committee.