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Three-Legged Stools

Whether it’s a beachfront condo in Florida, time spent playfully spoiling the grandkids, or hours carefully tending an award-winning garden, everyone has their own vision of retirement. If you’re like me then you never plan on retiring but at least want to build a large enough retirement nest egg to make that choice. As a personal finance professor, I encourage my students to start saving for retirement immediately after landing their first job. I can’t say that every young student follows this advice. According to the Federal Reserve, only 49.6% of people under age 35 have any retirement savings account with an average account balance of $18,880. By age 65-74, 51% of Americans have a retirement savings account with an average account balance of $115,000. I imagine most Americans who retire at age 65+ likely couldn’t retire for long with only $115,000. That size of a retirement fund certainly wouldn’t buy you an oceanfront property in Florida and those grandkids may have to make do with rice and beans at grandma’s and grandpa’s inland Florida shack.

Retirement planning is often referred to as a three-legged stool with the legs referring to 1) social security, 2) pension plans, and 3) personal retirement savings accounts commonly known as 401(k)s or IRA(s). Ideally, each leg is sturdy and collectively can support you comfortably throughout retirement. However, if one peg comes up a bit short, you may find yourself taking a tumble off of your retirement stool. Unfortunately, a quick fix like putting a piece of paper under the inadequate leg like you would in a restaurant likely won’t be an easy option when stabilizing your retirement savings.

Personal Retirement Plans

Defined Contribution plans such as 401(k)s, IRAs, 403(b)s, and employee stock ownership plans (ESOPs) have become increasingly common as companies move away from offering defined benefit plans, such as pensions, under which the company bears all the investment risk. Defined contribution plans shift the investment risk to the individual by offering the individual control over the selection of their investment allocation. Giving individual plan participants control over investment decisions could be to the detriment or benefit of the person depending on the performance of their investment choices. According to the U.S. Census Bureau, 401(k)s, 403(b)s, 503(b)s, and Thrift Savings plans are among the most common retirement account types. Unsurprisingly, these accounts have higher participation among employers who must make regulatorily defined contributions to these plans. Roughly 92% of employers offer 401(k)s through which the companies make defined contributions to the accounts of employees. On average, of those companies with 401(k) plans, individuals contribute 7.4% of their annual salary to their 401(k) account while employers contribute 4.5% of employee salaries.

The Census Bureau table above presents ownership rates by type of retirement account.  These ownership trends are not consistent across age, gender, or race. The Baby Boomer generation shows the highest level of participation, with 58% owning at least one type of retirement account. Ownership rates progressively decline in the younger generation, with the lowest participation seen in Generation Z, which is understandable since many in this group may still be in high school, college, or early in their careers.

One concern highlighted by this census data is the significant inequality in participation rates among races. White Americans have the highest participation levels, while individuals identifying as Asian, Black, or Hispanic lag behind. This discrepancy stems from systemic issues in the United States, as these minority groups have historically had lower access to higher education, which can lead to jobs with better retirement programs and greater financial literacy.

Not only are participation levels divergent across age and race for retirement planning but the type of investment mix within existing accounts is also worth considering. Investment allocation differs based on individual goals, risk profiles, and knowledge of financial markets. While overall financial literacy levels have grown significantly with the rise of the internet, access to information, and professionals advocating in the space, the financial literacy leg of the retirement stool varies across populations, especially in the minority groups mentioned above.

Nowadays many people hit the easy button for selecting their retirement investment allocations. No, I am not talking about the big red button at Staples, but I am referring to target date funds.  These are the “set it and forget it” asset allocation options for retirement savings. Fidelity reported that 94.3% of its plan participants default to target date funds (date of planned retirement). Target date funds can be a great option for those who do not want to manage their accounts actively, but it comes at a cost. Target-date funds require frequent adjustments to the investment mix for risk allocation as the fund approaches the specified retirement date. This active management may result in higher fees compared to self-managed index funds. According to Vanguard, the average yearly return for retirement accounts is 4.9%, which may not be sufficient for most individuals as inflation continues to erode returns.


Defined benefit plans, better known as pensions, have declined in popularity as companies look to shift investment risk onto their employees. Only 15% of the U.S. workforce have access to a pension whereas in the 1960s around half of all private sector workers were covered by a defined benefit plan. Various factors have contributed to this shift, but one of the main reasons is that people are living longer due to better access to nutrition, healthcare, and overall healthier lifestyles. Longer lifespans mean a longer investment horizon and the need to pay retirement income for 25 to 30 years instead of 15 to 20 years which may have been the pension assumption in the 1960’s. This increased capital commitment led employers to phase out pensions and introduce defined contribution options to their employees. The creation of the 401(k) plan by the U.S. Congress in 1978 as part of the Revenue Act facilitated this transition.

While pensions are increasingly rare in the private sector, people working in government, military, infrastructure, public schools, public safety, and unions are still largely covered by pensions. The often dangerous and more strenuous nature of work in these positions and often lower pay make pensions a powerful selling point for some employees. Pension commitments are one of the largest outstanding long-term obligations for many states alongside retiree health care benefits and outstanding municipal debt. Unfortunately, many states face large unfunded obligations with a total of $1.25 trillion of outstanding unfunded pension obligations among all states as of 2019. The Pew Charitable Trusts report that this debt is equal to 6.8% of all the states’ income and that percentage has been on the rise since before the Great Recession.

Many states deferred their pension contributions during the Great Recession, and the gap in unfunded pension obligations grew further. Some states have felt the burn more than others with New Jersey’s unfunded pension liability accounting for 20% of their total state revenues. The state of Illinois follows closely behind with its unfunded pension liability amounting to 19.4% of state revenue. Illinois in particular is known to have a relatively young retirement age with 63% of workers retiring before age 60. The average pension for a person in Illinois retiring before age 60 with at least 30 years of service is $63,424. This information suggests Illinois’ pensions may be unsustainable unless there are policy changes to alter retirement ages.

Social Security

It is impossible to talk about retirement without opening the door to a discussion about Social Security. Currently, 70 million Americans are receiving Social Security benefits which provides retirement benefits to Americans who have paid into the system during their working years. For every dollar that an individual contributes to Social Security, 85 cents goes toward the Social Security Trust Fund, while the remaining 15 cents is used to assist people with disabilities. For 4 in every 10 retirees, social security provided at least 50% of their total retirement income suggesting that for many retirees social security is crucial to ensuring a secure retirement.

The funds collected from the current year’s FICA (Federal Insurance Contribution Act) taxes are used to pay out benefits in the current year. In theory, the system seems sound but recent reports from the Social Security Administration suggest that the Social Security will run out of money to pay full benefits by 2035. Unless congressional action is taken, the Social Security fund will only be able to pay out 83% of retirees’ full benefits. According to the Social Security Administration, it has been 11 years since Social Security collected enough FICA taxes to meet its current year’s obligations and SSA has been steadily eating away at cumulative surplus FICA contributions. To cover the shortfall, the Administration has issued Trust Fund bonds totaling $24 billion.

The reason behind the funding gap is similar to why many companies are phasing out defined benefit plans. People are living longer, which means benefits must be paid out for more years than actuarially assumed, and there aren’t as many people paying into Social Security relative to the number of Social Security recipients as before. Until 2020, the Baby Boomer generation was the largest. As this generation began to retire, there weren’t enough workers to fill their positions as Social Security contributors, leading to a decline in Social Security reserves. Fortunately, subsequent generations, particularly Millennials and Gen Z, have started to enter the workforce, which will help alleviate the funding burden. However, many people are calling for policy reform to either raise the FICA tax level or lower the benefits paid out. It is unlikely that Social Security will go bankrupt, as it is a key issue for policymakers’ constituents.

Another concern surrounding Social Security is the long-term decline in U.S. birth rates since 2008. This decline isn’t just a worry for Social Security but also for the economy, as our supply chain, workforce, and infrastructure rely on a sufficient population size to fill roles. While artificial intelligence may offer some relief, it’s unlikely that the U.S. government will start requiring AI to pay income taxes, including Social Security.

The Wobbly Three-Legged Stool

Based on the current inflationary environment and improving lifespans, it is likely that the three-legged retirement stool may become a bit uneven and require some long-range planning. As private sector pensions continue to disappear and the structural integrity of social security becomes increasingly untenable, individuals must become more self-reliant by balancing the personal savings part of the stool. Thankfully, financial literacy programs abound and sophisticated financial advisors can employ innovative technology and a broad, diversified investment opportunity to reinforce the personal savings leg of your retirement stool. Servant Financial is dedicated to understanding your retirement goals and building a purpose-built retirement savings plan for your golden years. Optimally, you will find yourself sitting at ease throughout retirement resting on the personal savings leg entirely while the other two legs serve as a footstool for your beach flip-flops or as seats for your grandkids.