Will you survive your 401(k)? The new rules for calculating lifetime income have some shortcomings.


You probably have money set aside for your retirement in a 401(k) plan, but do you have any idea how long that money will last? Or how much would it bring each month in retirement? Probably not – until now.

A new federal rule for 401(k) plans states that statements employees receive must show how money in their accounts will translate into monthly income when the employee turns 67 (presumably retired). Managers of Individual Retirement Accounts (IRAs) do not have to.

When you see 401(k) lifetime income illustrations

The rule – part of the Retirement Savings Secure Act of 2019 – comes into force this fall. Some employers plan to make 401(k) statements with lifetime income illustrations available this summer; a few 401(k) registrants and plan sponsors like TIAA have already provided these kinds of retirement income illustrations themselves.

“I think [the new rule is] a good attempt to give people an idea “of what their 401(k) could mean as a monthly income,” personal finance journalist and author Terry Savage said in a recent episode of the Podcast Friends Talk Money I co-host with Pam Krueger and her. You can listen to the episode wherever you get podcasts.

However, it is quite possible that the new projections sent to employees will disappoint them.

A 401(k) with $125,000 would translate to about $500 or $600 in monthly income with these new illustrations. Already, 37% of workers are worried about outliving their savings and investments, according to the recent Transamerica Center for Retirement Studies poll, “Coming out of the COVID-19 pandemic: the outlook for workforce retirement.”

Also see: Thinking of retiring early? The ‘Financial Samurai’ tells you how to start your FIRE life by trading a big win

Defects in lifetime income illustrations

There are a few big flaws to note in the way the new rules calculate these lifetime income illustrations for 401(k) plans.

They assume that the employee will not make any future 401(k) contributions between now and age 67 and that their account balance will not increase over time as income increases. The illustrations also do not take into account the effect that inflation may have on the actual value of 401(k) retirement income by the time employees turn 67.

“So the illustration can be a little misleading,” Savage noted. “But at least it gets people thinking about lifetime income.”

Krueger, founder of the Wealthramp service for verifying financial advisors, also thinks monthly income figures are a useful retirement planning tool.

“Illustrating how a lump sum of your 401(k) savings turns into a monthly stream of income for the rest of your life feels like it’s going to remove a lot of the mystery. Great attempt, and it comes from the right place,” she said.

Lily: Our retirement budget is $38,000 a year, where should we go?

A warning from an expert

But, Krueger noted, she spoke to a respected thought leader in the world of 401(k) and financial education, who offered a caveat.

“He told me that 401(k) providers can show the number of employees who might be in the ballpark, but they will tend to tend to be too conservative,” she said.

In other words, the monthly income figures will be lower than the amounts the 401(k) savings would likely provide in the form of monthly annuities.

Krueger added, “It sounds to me like it’s just a red flag not to rely too much on that number you’re going to see on your statement.”

Convert 401(k)s to monthly annuities

These illustrations of lifetime income are coming out as more employers start letting employees convert their 401(k)s into monthly income in retirement.

According to the Wall Street Journal, more than 80% of employers now offer retirement income options, up from 50% in 2018, as a 2020 law made it easier for employers to offer annuities as retirement options to tenured employees a 401(k) plan.

It is generally better not to convert everything of your 401(k) in monthly income, however. This is because when you annuitize, you lock in a set amount of money each month, but inflation could mean you want – or need – more money in the future just to meet the upside. costs.

Krueger advises employees nearing retirement to meet with a fiduciary financial advisor for unbiased advice if they are considering making some of their 401(k) profitable.

Also see: 7 Financial Planning Steps to Follow in the Decade Before Retirement

An annuity worth the detour: a QLAC

Savage suggested that if your 401(k) offers qualified longevity annuity contracts, or QLACs, you should consider investing some of your plan’s retirement savings there.

With a QLAC, Savage explained, “you take some of your money and say, ‘I want to buy this now at 65 but don’t start paying me until 75.

By doing so, you’ll get much larger monthly checks when the money starts rolling in than if you took part of your 401(k) as an annuity immediately after you retire.

Congress considering other changes

More changes may be coming. The House of Representatives recently passed legislation known as Secure 2.0 with strong bipartisan support; it is now before the Senate. If enacted, it will automatically enroll employees in 401(k)s if offered by their employers. The data shows that contribution rates are much higher when plans have automatic enrollment.

The Secure 2.0 legislation would also increase the amount people between the ages of 62 and 64 could contribute to 401(k) plans each year. Currently, people over 50 are allowed to make what are called annual “catch-up” contributions of up to $6,500 more than the normal limit; Secure 2.0 would allow people between the ages of 62 and 64 to pay up to $10,000 more per year in catch-up contributions, if they can afford it.

“Hopefully he has enough support to be successful,” Savage said.

Richard Eisenberg is the former senior web editor for Next Avenue’s Money & Security and Work & Purpose channels and former site editor. He is the author of “How to Avoid a Midlife Financial Crisis” and has served as personal finance editor at Money, Yahoo, Good Housekeeping and CBS MoneyWatch.

This article is reproduced with permission from NextAvenue.org© 2022 Twin Cities Public Television, Inc. All rights reserved.

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