Securing Your Retirement After The Death Of Pensions

by: Charles Lewis Sizemore, CFA

Traditional pensions have been under attack for decades. Employers don’t want the open-ended liability and have been closing their plans to new hires and, in some cases, freezing benefits.

But if you were lucky enough to be grandfathered into an existing pension plan, you could generally rest assured that your benefits, however modest they might be, were safe, particularly if you were already in retirement.

Not anymore.

The recently-passed spending bill had a provision tucked into the back that fired a major warning shot across the bow of both current and future retirees: Some underfunded pension plans will be allowed to reduce benefits — even to those already in retirement.

This is a big deal. While it may not necessarily be “fair,” most of us came to accept a long time ago that Millennial, Gen X, and even most Baby Boomer workers would not have the kind of retirement security that the pre-World-War-II generations did.

Companies have been transitioning their employees from defined-benefit pensions, in which the employer accepts the investment risk, to defined-contribution 401k plans, in which the employee accepts the investment risk, for decades. But it’s always been understood that the benefits of workers in or near retirement were sacrosanct except in the case of company failure.

This amounts to a broken promise, and it brings us one step closer to the death of pensions.

The End of Pensions Is Nigh

Pensions have already been slowly dying a death by a thousand cuts. Private-sector pensions have declined from nearly 35% of the workforce in the early ‘90s to 18% today. But what prompted this new assault?

Underfunding. The Pension Benefit Guaranty Corp, the government insurance company that backstops pension benefits, reported that multi-employer plans covering more than a million workers were in danger of failing with deficits of $42 billion. Reducing benefits brings the plans closer to solvency and reduces the risk to the Federal government of having to assume responsibility.

Taken alone, this news doesn’t mean a whole lot, as it affects only a small number of retirees. But it is significant for the precedent it sets. The Federal government is effectively shirking the promise it made to guarantee pensions under the ERISA act of 1974.

It’s fair to ask what’s next. Will the government renege on its Social Security promises too?

You can bet on it.

Congress will never take a chainsaw to Social Security benefits. Doing so would be political suicide. But they most certainly can chip away at it by making your benefits fully taxable and by making more of your taxable income subject to FICA taxes.

Currently, most low-income households pay no taxes on their benefits. Making Social Security benefits fully taxable would bring in more revenues for the government, but the real mother lode is eliminating the cap on Social Security FICA taxes. In 2015, earned income over $118,500 is not subject to Social Security FICA taxes. Eliminating that cap would subject all income above that threshold to the 6.2% tax. For higher-income workers, that’s going to sting.

How to Secure Your Retirement

As pensions die and as Social Security becomes ever less generous, Americans are going to have to get more creative in their retirement planning. Whatever you expect to receive in fixed payments, be conservative and reduce it by a good 20% to 30% in your planning. Plan to make up the difference with income from dividends, interest or perhaps even an immediate annuity.

In The Road to Retirement, I touched on immediate annuities. Essentially, they are “do-it-yourself” pension plans that you buy from an insurance company.

An immediate annuity is essentially the opposite of life insurance. Rather than pay an insurance company a monthly premium in exchange for a lump-sum payout at death, you pay the insurance company a lump sum today in return for a guaranteed monthly payout for the rest of your life.

Be careful here. Annuities are only as good as the insurance companies that sell them. Your state may or may not guarantee your annuity, and even if they do, we see how quickly these sorts of promises are being broken these days.

The key is to spread your income streams among payers so that in the event one of them fails to deliver, you’ll still have the income coming in from the rest to keep a roof over your head.

This article first appeared on Sizemore Insights as Securing Your Retirement After the Death of Pensions

Disclaimer: This article is for informational purposes only and should not be considered specific investment advice or as a solicitation to buy or sell any securities. Sizemore Capital personnel and clients will often have an interest in the securities mentioned. There is risk in any investment in traded securities, and all Sizemore Capital investment strategies have the possibility of loss. Past performance is no guarantee of future results.