What Replacement Rate Do Households Actually Experience in Retirement? Alicia H. Munnell and Mauricio Soto Boston College Prepared for the 7 th Annual Joint Conference of the Retirement Research Consortium Towards a Secure Retirement System August 11-12, 2005 Washington, D.C.
1. Study presents increasingly comprehensive measures of Replacement Rates (RR). Individuals: Social Security Households: Social Security Pensions and financial assets Housing
2. People need less than 100 percent of preretirement income. Percent of Pre-Retirement Income Required to Maintain Living Standards 100% 80% 40% 10% 8% 4% 3% 75% Federal and State income taxes Social Security taxes Savings Work-related expenses Replacement rate needed 20% 0% Source: Bruce A. Palmer. 2001. 2001 GSU/AON RETIRE Project Report. Research Report Series. 01(1) (June).
3. Calculating RRs should be easy; SSA already publishes numbers. Social Security RRs for Hypothetical Workers at 65, 2004 57% 50% 40% 42% 35% 30% 20% 10% 0% Scaled low earner Scaled medium earner Scaled high earner Source: U.S. Social Security Administration. 2004. 2004 Social Security Trustees Report. Table VI.F11. Washington, D.C.
4. The first complication the denominator matters. Social Security RRs for Hypothetical Workers at 65 Based on AIME and Career Average Earnings, 2004 70% 65% 57% 50% 40% 48% 42% 40% 35% 30% 20% 10% 0% Scaled low earner Scaled medium earner Scale high earner AIME Career average earnings Source: U.S. Social Security Administration. 2004. 2004 Social Security Trustees Report. Table VI.F11. Washington, D.C. and authors calculations.
5. And SSA numbers assume steady earnings. Mean Wage and Salary Income and Average Wage Index, 1950-2003 $50,000 $45,000 $40,000 $35,000 $30,000 $25,000 $20,000 $15,000 $10,000 $5,000 $0 AWI Mean Wage & Salary Income: All Mean Wage & Salary: Men Mean Wage & Salary: Women 1950 1960 1970 1980 1990 2000 Source: Authors calculations based on U.S. Census Bureau. Current Population Survey (various years); Social Security Administration. 2005. Washington, D.C.
6. In fact, people have interrupted careers. Average Number of Years with Zero Earnings of New Retired-Worker Beneficiaries, 2002 14 12 10 Years 8 6 4 2 0 Men Women Source: U.S. Social Security Administration. 2004. Performance and Accountability Report, FY 2004. Washington, D.C.
7. Therefore, actual AIMEs at 65 are lower and RRs should be higher. AIME at 65, 2003 Social Security RR as a Percent of AIME, 2003 $32,000 $28,000 $24,000 $20,000 $28,950 $25,000 50% 40% 48% 50% $16,000 30% $12,000 $8,000 $4,000 20% 10% $0 "Medium earner" Average worker 0% "Medium earner" Average worker Sources: Authors calculations based on the U.S. Social Security Administration. 2004. 2004 Social Security Trustees Report and Annual Statistical Supplement 2004. Washington, D.C.
8. But people retire early, reducing monthly benefits and RRs. Percent of Workers Receiving Initial Social Security Benefit Before 65, 2003 80% 78% 75% 74% 70% 65% Men Women Source: U.S. Social Security Administration. 2004. Social Security Bulletin, Annual Statistical Supplement 2004. Table VI.BV. Washington, D.C. and authors' calculations.
9. By coincidence, early retirement lowers median RR to reported number. Ratio of Social Security Benefits to AIME of New Retired-Worker Beneficiaries, 2002 50% 40% 30% 20% 10% 42% 37% 52% 0% Total Men Women Source: U.S. Social Security Administration. 2004. Performance and Accountability Report, FY 2004. Washington, D.C.
10. Married women have the highest RRs; married men have the lowest. RR Recipients by Marital Status and Gender RR > 75 Percent RR < 30 Percent 6% 54% 28% Single men Single women Married men 83% 4% 9% Married women 4% 12% Source: Authors' calculations based on the Health and Retirement Study (HRS).
11. Household Social Security RRs show distinct patterns by earnings and gender. Median Social Security RRs for HRS Households 70% Couples Singles 50% 40% 30% 20% 10% 0% All Spouse AIME=0 Spouse AIME>0 All Men Women Source: Authors' calculations based on the Health and Retirement Study (HRS).
12. People have more than Social Security. Wealth Holdings of the Middle Ten Percent of Households at Retirement 11% 17% 6% 18% 48% Primary housing Defined contribution Defined benefit Social Security Other assets Source: Authors' calculations based on the Health and Retirement Study (HRS).
13. But expanding retirement income requires expanding pre-retirement income. Retirement Income Pre-Retirement Income Social Security (SS) AIME SS + Pensions +Financial Assets AIME + Earnings Above the Cap + Return on Financial Assets SS + Pensions +Financial Assets + Imputed Rent (IR) AIME + Earnings Above the Cap + Return on Financial Assets + IR SS + Pensions +Financial Assets + IR + Residual AIME + Earnings Above the Cap + Return on Financial Assets + IR $0 $20,000 $40,000 $60,000 $0 $20,000 $40,000 $60,000 Source: Authors calculations based on the Health and Retirement Study (HRS).
14. RRs also depend on whether replacing lifetime earnings or recent earnings. Median Expanded AIME and Median Highest Five of Last Ten Years AIME + Earnings Above Cap Highest five of Last 10 Years of Earnings $0 $12,000 $24,000 $36,000 $48,000 Source: Authors calculations based on the Health and Retirement Study (HRS).
15. Pensions and financial assets increase RRs. Median RRs for Couples and Singles by Coverage and Pre-Retirement Earnings Expanded AIME Recent income 100% Couples 86% Singles 80% 74% 55% 45% 67% 58% 44% 40% 20% 0% With pensions Without pensions With pensions Without pensions Source: Authors' calculations based on Health and Retirement Study (HRS).
16. Housing also provides retirement income through imputed rent and residual value. Present Discounted Value of Imputed Rent as a Percent of Total House Value 100% 80% 40% 20% 0% 3 percent 6 percent 9 percent Discount Rate Imputed rent Residual value Source: Authors' estimates.
17. Including imputed raises RRs, but patterns persist. Median RRs Including Housing for Couples and Singles by Pension Coverage Expanded AIME Recent income 100% Couples 88% Singles 80% 76% 63% 50% 70% 62% 51% 40% 20% 0% With pension Without pensions With pension Without pensions Source: Authors' calculations based on Health and Retirement Study (HRS).
18. Summary Individual worker Social Security RR is 42 percent. Interrupted careers reduce lifetime earnings. Most workers retire before 65. Household Social Security RRs vary by earnings and gender. Single women > single men. One-earner couples > two-earner couples. Pensions and financial assets raise RRs. Housing should be included, but has modest impact.
19. Conclusion Today most workers have adequate RRs. Pensions matter. Pre-retirement earnings matter. But, the future will be less secure.