Academic journal article Financial Services Review

Do U.S. Households Perceive Their Retirement Preparedness Realistically?

Academic journal article Financial Services Review

Do U.S. Households Perceive Their Retirement Preparedness Realistically?

Article excerpt


This study examines the divergence between objective and subjective assessment of retirement adequacy, analyzing U.S. households with a full-time worker age 35 to 60 in the 2010 Survey of Consumer Finances. Of those households, 58% have objective inadequacy, and 54% have subjective inadequacy, but only 52% have objective/subjective consistency. Our focus is on households with objective inadequacy, and what factors were related to being an optimist despite having objective retirement inadequacy. A logistic regression shows that households with defined benefit plans and with defined contribution plans are less realistic than those without plans, and as age increases, realism decreases. © 2015 Academy of Financial Services. All rights reserved.

Jel classification: D12; D14; D91; J26

Keywords: Retirement assessment; Retirement adequacy; Cognitive ability; Survey of Consumer Finances (SCF); Financial education

1. Introduction

Retirement adequacy of current workers is an important issue in policy debates about Social Security reform, and in proposals for the restructuring of public and private defined benefit plans, as well as for income tax incentives for retirement savings, and penalties for early withdrawal of funds from tax-sheltered retirement accounts. However, retirement planning is becoming increasingly challenging because workers face economic uncertainty, Social Security insolvency, and increased life expectancy. Munnell (2012) notes that the substantial decline in the wealth-to-income ratio in the 2010 Survey of Consumer Finances (SCF) is a signal of even more serious economic problems for future retirees. Bricker, Bucks, Kennickell, Mach, and Moore (2011) report that over 60% of U.S. households had decreases in their wealth over the two-year period, 2007-2009. According to the 2014 Old-Age and Survivors Insurance and Federal Disability Insurance Trustees Report (Social Security Administration, 2014), if no changes in taxes or benefits are implemented, the combined Trust Fund would be depleted by 2033, and income would be sufficient in the combined fund to pay only 77% of scheduled benefits.

Choi, Laibson, and Madrian (2004) note that defined benefit pension plans have been steadily being replaced with defined-contribution pension plans so that workers are more responsible for their own retirement savings. Therefore, it is important that workers have accurate assessments of their financial status in the retirement planning process. Comparing objective assessments of projected retirement adequacy to individual assessments of future retirement adequacy would provide insights into potential problems. Analysis of factors related to discrepancies between objective and subjective assessments could provide a better focus for financial education.

The main purpose of this study is to assess the consistency between objective and subjective projected retirement adequacy. To assess the objective retirement adequacy, we calculate the mean income replacement rate by following the retirement income stage method (Chen, 2007; Kim, Hanna, and Chen, 2014). Compared to the benchmark ratios for different income categories estimated from the 2010 Consumer Expenditure Survey, the adequacy of retirement resources is determined. The SCF variable of the respondent's perception of the adequacy of retirement income is used as a subjective measure of having an adequate retirement. Based on objective/subjective consistency, we identify four groups; Unrealistic Optimists, Pessimists, Adequate Realists, and Inadequate Realists (Table 1). We focus our analysis in this article on households that are projected to have objective inadequacy (i.e., Unrealistic Optimists & Inadequate Realists) for the purpose of public policy interests. By analyzing households aged 35 to 60 with a full-time worker in the 2010 Survey of Consumer Finances (SCF) dataset, we analyze factors related to being an unrealistic optimist among households with objective inadequacy. …

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