Financial Advice: Read a Free Pamphlet or Watch a Cartoon
A large number of my contemporaries ask me about retirement savings and finding a capable financial planner. In my opinion, most people don’t need a financial planner, because the key to retirement savings is simply spending less than you earn. So I give them the usual advice that they need to save more and will probably have to work longer. However, the harsh truth is that many 50 and 60 something year olds are going to face some unpleasant choices in their retirement years. It’s nearly impossible to save enough money unless you started saving in your twenties and thirties.
This column is really aimed at the next generation. I have three pieces of advice. First, start saving now. Second, watch your parent’s generation and pretty much do the opposite. Third, read William J. Bernstein’s free pamphlet entitled, “If You Can.” You can get it at this website: http://efficientfrontier.com/ef/0adhoc/2books.htm. Since Mr. Bernstein provides an excellent guide to long-term savings, I want to focus on a couple of recent items that are good examples of what not to do.
Invading the Savings Nest Eggs
A couple of days ago, Richard Rubin and Margaret Collins wrote a piece for Bloomberg called “Early Tap of 401(k) Replaces Homes as American Piggy Bank.” The reporters point out that a significant number of Americans are cashing out their 401(K)s to the tune of about $51 billion in 2011. We know this because the IRS publishes data on the tax penalty for prematurely drawing money from a tax deferred retirement plan.
Who’s been doing this? According to the IRS data, 5.7 million taxpayers paid $5.7 billion in penalties to empty all or part of their retirement accounts. On average they withdrew about $10,000. Digging into the data, I discovered that it’s the baby boomers who are the largest group prematurely raiding their retirement account. Those aged 45 to 55 represent 31% of the taxpayers paying the penalty, and they withdrew an average of $23,400 from their accounts. While the numbers rose during the great recession, we’ve seen this age cohort steadily remove about $120 billion of retirement savings since 2006. This is money that should have continued to compound returns for the next couple of decades.
Obviously, some of these folks were hit with economic stress and felt they had little choice. However, the IRS data for 2011 also shows that 47% of those paying the tax penalty had adjusted gross incomes over $100,000, and that they incurred 96% of the penalties. These folks withdrew about $21,000 from their retirement accounts. By contrast, those making less than $100,000 withdrew about $700 from their accounts.
Piling Up Debt
It’s one thing to borrow money when you are young. Getting started often involves investments that can’t be funded without borrowing (homes, cars, education). My parent’s generation had mortgage burning parties and tended to enter their retirement years with little or no debt. The Consumer Finance Protection Bureau just issued a short report entitled, “Snapshot of older consumers and mortgage debt.” The report shows that in 2011, 30% of people over age 65 now carry mortgages versus 22% ten years ago. These folks are carrying much larger balances ($79,000 versus $43,400 ten years earlier), and they have less equity in their homes. The debt-to-value ratio rose from 30% to 46% over the ten-year period. As you might imagine, foreclosure rates soared for those older folks still carrying mortgages. The baby boomers are entering their sixties with higher levels of debt than the previous generation, so their situation is likely to be worse.
My generation has been exceptionally good at living well today, but not so good about preparing for tomorrow. At least the next generation can learn from us. If you don’t have time for Mr. Bernstein’s 15-page pamphlet, I recommend Disney’s 1934 cartoon the “Grasshopper and the Ants.” I’m sure my generation watched it early on Saturday mornings before our parents got up. However, we didn’t get the message.
 see, Department of the Treasury, Internal Revenue Service, Individual Income Tax Returns 2011 (Publication 1304 Rev. 08-2013), Table 3.3 at page 124, Table 3.7 page 151.
 Household Debt in the U.S.: 2000 to 2011, Marina Vornovytskyy, Alfred Gottschalck, and Adam Smith, page 2. http://www.census.gov/people/wealth/files/Debt%20Highlights%202011.pdf