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After reading my cover article pointing out the outrageous truth about Social Security (
Members Only), the two leading contenders for the Republican nomination for president immediately began arguing over whether to call the program a Ponzi scheme.
Ha, just kidding! Doubt either Mitt Romney or Rick Perry have taken time out of their busy schedules to devour the latest issue of SMI. But I found it interesting to read that the Ponzi comparison has a long history:
Not only have a raft of conservatives called Social Security a Ponzi scheme over the years, quite a few very respectable liberals have done so as well.... Jonathan Last has already identified a 1967 Newsweek column by liberal economist and Nobel laureate Paul Samuelson as perhaps the earliest use of the Social Security/Ponzi-scheme comparison in public argument. Samuelson was actually drawing on the Ponzi analogy to defend Social Security. His claim was that the perpetual succession of human generations establishes the conditions for a sustainable Ponzi scheme. Regardless of whether Samuelson was the first commentator to use the Ponzi analogy, he has clearly been the most influential. Policy briefs and books churned out by conservative think tanks such as Heritage and Cato have cited Samuelson’s Ponzi column for years. This is likely how the comparison made its way into public debate.
It's a natural analogy because SS's structure has always relied on supplying new contributors to the system to pay the benefits of the earlier contributors. When you no longer have enough new contributors, the scheme collapses. Good deal for those in early; bad deal for those in late. As SmartMoney points out in 10 Things Social Security Wont Tell You:
Today's workers -- boomers, Gens X and Y -- like to carp about Social Security, but it's not all sour grapes or skepticism about paying into a system with an uncertain future. Employees today pay more in Social Security taxes than previous generations did. They're also likely to get smaller benefits when it's their turn to retire....
For example, a single man who retired in 1980 at age 65 after earning an average wage of $43,500 would have paid about $96,000 in Social Security taxes, and probably received $203,000 in lifetime benefits, according to a study by the Urban Institute, a non-partisan policy think tank in Washington D.C. By contrast, a single man making the same average wage today and retiring in 2030 will likely pay $398,000 in lifetime taxes but receive just $336,000 in lifetime benefits -- about 16% less than he paid in. "People who were first in the system got a great rate of return," says Alan Gustman, chair of the economics department at Dartmouth College. "It's the younger generation that is going to be in the most difficult position."
Of course, Charles Ponzi (and other infamous villains such as Bernie Madoff) constantly needed to find new sources of money to keep things moving along. The U.S government took a simpler route—passing a law making SS compulsory for most of us. Noting the similarities in approach (if not enforcement mechanism), even Mitt Romney has compared those managing Social Security to criminals.
Whether one labels SS a Ponzi scheme or not, it's been obvious for a long time that the program is not self-sustaining and needs to be reformed. Hopefully, the current "crisis" environment regarding the federal debt will provide Washington with the needed backbone to take constructive action.
Need a better understanding of Social Security? Download our special FREE report: IRAs, 401(k)s and Social Security: A Retirement Planning Primer
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IRAs, 401(k)s and Social Security: A Retirement Planning Primer
Closing out last week's Morningstar investment conference was Harvard's Robert I. Goldman Professor of Economics David Laibson. He tackled the unpleasant but important topic of cognitive decline among the elderly and the impact it has on their financial and investing decisions.
Combining information from this summary of Laibson's address as well as this follow-up interview following the address, here are some of the highlights that stood out:
Laibson highlighted two kinds of intelligence. Crystallized intelligence is the ability to accumulate wisdom, experiences, skills, and knowledge. This type of intelligence rises until age 60 when dementia is more likely to set in. Fluid intelligence is the ability to solve new problems. This type of on-the-fly intelligence peaks at 20 and then declines rapidly.
According to memory and analytics tasks performed by all age groups, 80-year-olds perform at the bottom 16th percentile. Moreover, age is a greater hindrance to economic rationality than is being low-income or of low-education. As a result, the retired are among the most impaired in terms of economic reasoning. The prevalence of dementia (or cognitive impairment) plays a huge role. Laibson noted a startling but compelling statistic — the likelihood of developing dementia doubles with every five years of age after age 60.
Unfortunately, in the 80s, about half the U.S. population either has full blown dementia or cognitive impairment, which is short of dementia, but still a clinical diagnosis — half the population. So, every investor in their 60s should be preparing for the possibility, an enormous possibility, that things are going to go badly in the 80s.
Laibson says that risk-adjusted returns for investors in their 80s run about 3% below "baseline" (which I don't see precisely defined, but from context seems to indicate what other investors of other ages get when investing with a comparable set of goals). This also helps explain why 20% of American seniors report being taken advantage of financially.
Laibson's primary point is that investors need to plan ahead for the potential that cognitively they just may not be as sharp in their 80s as they were in their 60s. Naturally, people aren't always aware of the decline as it happens, which makes planning ahead for it crucial.
In terms of investing, Laibson's opinion appears to be that all "complicated" aspects of your investment strategy ought to be wound down (or on a very specific, written plan made out years in advance) before an investor reaches these ages.
There are other applications as well. One important one is in the area of estate planning and making sure the four primary estate documents are in order while you're still relatively young.
What are those documents? You should have a durable power of attorney or a springing power of attorney. You should have a living revocable trust that protects your assets. You should then have two health-care documents. A health-care proxy, that basically assigns someone to help you make health-care choices if you are no longer mentally competent, and you should have a living will, which is providing instructions to that person about what kind of care you'd like. How extensive intervention do you want if you are, say, on life-support.
While this isn't a pleasant topic, it's an important one. Reading one or both of the links above is probably time well spent. Beyond that, putting in the effort to simplify your investing/financial decision-making as you get older is smart. Think of it as doing a favor for your older, potentially less-capable self. If none of this decline happens to you, you still haven't lost anything, as your financial plan will be that much more organized and well thought out.
That's a benefit worth working for at any age.
It's Personal Finance Friday, and today we're focusing on preparing for retirement (plus we have a special freebie for you — read on!).
SMI has never endorsed the idea that when people arrive at certain age they should give up all productive endeavors and go spend every day on the golf course or at the lake. We think a person's later years can be spent in all kinds of productive enterprises, especially those that relate to strengthening family ties and advancing the Kingdom of God. And if your health is good, you might even want to keep working.
But even if you plan to keep earning an income well past normal "retirement age," it's wise (and good stewardship) to build up savings now so you will have adequate financial support later.
Regrettably, many people are failing to save enough when they are young or middle-aged, according to retirement-funding studies.
In the decades ahead, that lack of savings, when combined with possible cuts in Social Security benefits, is likely to mean that Americans will be forced to work longer, competing for a limited number of employment opportunities that may not pay as well as current employment.
To help you think through the realities of retirement planning, we've prepared a complimentary new report, IRAs, 401(k)s, and Social Security: A Retirement Planning Primer. The report explains the "three-legged stool" of retirement income: Social Security, private employer-sponsored retirement plans, and personal retirement savings. We believe it will help you craft a plan to ensure future financial stability.
The report includes:
- An overview of the Social Security system — and why cuts are likely ahead;
- A review of the pro and cons of different types of employer-sponsored plans;
- An explanation of the differences between a "traditional" IRA and a "Roth" IRA;
- A discussion of how to keep taxes to a minimum; and
- Advice on why to consider an IRA, even if you have an employer-sponsored plan.
For details on how to get complimentary copy of IRAs, 401(k)s, and Social Security: A Retirement Planning Primer — or our other FREE report, Seven Key Principles for Christian Investing — click here.
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Next week's Personal Finance Friday post will look at two easy-to-use (and free!) services that can save you money and simplify your life. How 'bout that!
Spend wisely — and have a great weekend!
For years, my impression has been that former employers are generally happy enough to see you transfer your 401(k) balance to an IRA (particularly if the balance isn't very large). Indeed, some plans even force former employees to move their balance within a certain amount of time.
That "move 'em out" mindset appears to be changing. With the retirement of the boomer wave of workers, many of these plans appear on course to shrink in the coming years, and 401(k) plan providers don't like that.
Naturally, IRA providers — which include both brokers (Schwab, Fidelity, TD Ameritrade) and mutual fund companies (Vanguard, tons of others) — have aggressively targeted these assets for years. Only recently have 401(k) providers started fighting back.
IRAs offer a lot more flexibility than most 401(k) plans, which is why SMI has always leaned toward retirees rolling 401(k) assets into an IRA — especially for investors who want to follow our highly successful Fund Upgrading strategy.
Naturally there are a few exceptions that would give the nod to 401(k)s instead, such as:
In other words, it pays to look closely at the details of your specific situation. But unless you have a specific reason to stay, we think most retirement investors are best served by rolling any old 401(k) accounts to IRAs.
Here is an interesting tidbit from former Treasury Secretary Hank Paulson's new book, On the Brink: Inside the Race to Stop the Collapse of the Global Financial System.
Back in my temporary office on the 13th floor, a jolt of fear suddenly overcame me as I thought of what lay ahead of us. Lehman was as good as dead, and AIG's problems were spiraling out of control. With the U.S. sinking deeper into recession, the failure of a large financial institution would reverberate throughout the country — and far beyond our shores. It would take years for us to dig ourselves out from under such a disaster.
All weekend I'd been wearing my crisis armor, but now I felt my guard slipping. I knew I had to call my wife, but I didn't want to do it from the landline in my office because other people were there. So I walked around the corner to a spot near some windows. Wendy had just returned from church. I told her about Lehman's unavoidable bankruptcy and the looming problems with AIG.
"What if the system collapses?" I asked her. "Everybody is looking to me, and I don't have the answer. I am really scared."
I asked her to pray for me, and for the country, and to help me cope with this sudden onslaught of fear. She immediately quoted from the Second Book of Timothy, verse 1:7—"For God hath not given us the spirit of fear, but of power, and of love, and of a sound mind."
The Wall Street Journal has a longer version of this excerpt, courtesy of the Hachette Book Group, Inc.
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