Are Americans Saving Enough for Retirement?

Have retirement accounts balances rebounded from the financial crisis?

Reports from both Vanguard and Fidelity put the average balance for U.S. 401(k) plans at a record $75,000 (as of March 31, 2011). The first report, released from Fidelity in May, showed that the average 401(k) balance rose to $74,900—up 12% over the last year. This marked an all-time high since Fidelity began tracking account balances back in 1998. Fidelity is the largest single administrator of 401(k) plans, with 11 million accounts, so these numbers are of considerable interest to me.

Vanguard also announced that the average balance of its 401(k) accounts rose to about $75,000 in its annual How America Saves 2011 report.

At first glance, the numbers are compelling and encouraging. Both Vanguard and Fidelity report the largest increase in contributions since both firms started tracking this data (in 1999 and in 1998, respectively). However we need to take a closer look to see what these results really mean.

Good News! … But How Good Is It?

One result that leaps off the page at me the Vanguard Report is that the median account balance is much lower than the average. While the average is $79,077 for 2010 in Vanguard’s data, the median account balance is only $26,926. The difference between the average account balance and the median account balance is telling. Here’s why: The average account balance is simply the balance that each person would have if every person pooled all of their balances and then divided the money equally among everyone. But of course, it doesn’t work that way because some people have more saved for retirement, and some have saved less.

Let’s look at it this way: If we take the average of my wealth, your wealth, and say, Warren Buffett’s wealth, the average person in the group would be a billionaire. But of course, we are not all billionaires. This is why the median account balance is the more relevant statistic here.

By definition, the median statistic is the amount that 50% of the group exceeds and 50% falls below. What the Vanguard report is telling us is that the median account balance is, in fact, much smaller. Only 50% of account holders have balances less than $26,926. The average account balance of $79,077 means that there are a small fraction of people with large balances and that most people have balances below the average ($79,077) and half of all of the people in the survey have balances that are less than one third of the average ($26,926).

Vanguard estimates that only 30% of employees are saving enough in their 401(k) plans to meet their future retirement needs. This is based on the firm’s analysis of total income in retirement vs. needs, including projected Social Security benefits (see page 34 of the report).

As a basic guideline, Vanguard suggests that people need to save 12%-15% of their gross annual income (this includes matched contributions by their employers) in order to adequately fund future retirement needs.

While there are plenty of assumptions that go into the estimates of retirement savings rates, I’ve found that Vanguard’s research to be careful and compelling. So, assuming that the conclusions that Vanguard comes to are reasonable, where does this leave us?

Americans Still Need to Save More

The take-away here is that investors need to save as much as possible and to think carefully about tax management.

If two-thirds of Americans retire without sufficient resources to support themselves in retirement, it’s not a stretch to imagine that this majority of the population will vote for increased spending on social services in order to cover this financial shortfall. Increased government spending on social services will then necessitate higher taxes.

Once you take a look at the underlying numbers, the latest figures from Vanguard and Fidelity are hardly encouraging—even with 401(k) balances surpassing their pre-crash highs.

The solution, of course, is that we need to see substantially higher participation rates in 401(k) plans and higher savings rates among those who currently contribute.

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4 thoughts on “Are Americans Saving Enough for Retirement?

  1. rmharman

    Well, you could have a lot of companies shift to making the default, in the absence of an opt-out, be to contribute 15% of salary (or 12% plus a 3% employer match, or some other combination) to a 401k. Or, at a lower cost and risk, you could have the default be to contribute a similar amount of money to a defined benefit plan. Or you could pool the risk nationwide, rather than depending on your company, and put a contribution of that magnitude into a national retirement plan. We could call it, I don’t know, something like “Social Security”. Given that the average citizen clearly doesn’t want to take the time to plan for retirement (and who can blame them? they have jobs, kids, etc) maybe they ought to vote to fund such a system now, rather than trying to cut the one we’ve got. Saving now would be smarter than slashing away at our retirement security system, right up until the moment the demographic bulge suddenly realizes it NEEDS that system.

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