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Retirement Planning: Rely Only On Yourself

Social Security is going to be bankrupt. The pensions of heretofore good companies (Enron, Worldcom, and recently United Airlines and US Airways) are now defunct. The sky is falling… but this time it’s for real. The age old paradigm of working for the same company for forty years and then retiring on your pension and social security is out the window. Companies are firing people in times of work shortage and financial hardship, employees are leaving for greener pastures whenever possible, and the two things many have come to rely on as certainties in retirement are anything but. That’s why it is more important than ever for people to rely on themselves for their retirement.

Replacing Social Security:
I’m not talking about the latest bill or proposal to overhaul the system, I’m talking about what you can personally do to ensure you get the same income even if social security goes down for the count. In researching a past article on whether the system was broken [3], I stumbled on the Social Security Quick Calculator as a means of comparing how much I may expect to get from Social Security. The calculator yielded a cool $5,148/month in 2042 dollars. ($1,280 in 2005 dollars)

How will I replace that? By using my 401k. According to Dinkytown.net’s Retirement calculator [4], in order to replace the $5,148/month income, I’ll have to contribute $14,000 a year and experience an appreciation of 7.5% each year and during the disbursement periods. For the sake of simplicity, I’ve assumed my age to be 24, my current 401k balance to be $0, the yearly contribution to be a constant $14,000 (the current maximum), and that the disbursement period is 35 years.

Replacing Pension:
Since I’m not vested and my company’s pension calculators only work off actual data, so it’ll be harder for me to make this bit of analysis. My pension benefit plan is pretty complicated since my company works on a points system, then calculates your base benefit, and then appreciates it based on the 30-year Treasury bond. The benefit calculation also splits your salary between the part subject to Social Security and the part not subject to it to determine different value rates. It’s complicated and their calculators are broken.

But the pension-backup plan is a Roth IRA. Since you can take disbursements whenever you want, it truly is a rainy day plan such that if the pension does go poof (I’d be very angry of course) you’d have a solid backup. I believe a solid nest egg of $2M would definitely cover the income from the pension and in order to achieve that, given a $0 balance today, you’d have to contribute the maximum allowable contribution to the Roth and achieve a 9.09% rate of return until the age of 65. If the Roth only achieved a rate of 6.55%, you’d still have a very comfortable million to rely on in case my company’s pension goes bust.

While these comparisons are interesting, it shows how a little bit of financial planning now can ease heartache later if things go badly in the future. While you can’t foresee, or even prevent, some of the things that happened in the airlines or Enron/Worldcom, you can prevent yourself from relying on those sources of income as your only means of income in retirement.