Pension and wealth accumulation patterns have experienced a seismic shift in the last 30 years. Individuals now own their retirement assets versus the defined benefit pension plan model. We may be at a generational pivot point where accumulated family wealth can support education, equity building investment opportunities, meaningful philanthropic/charitable campaigns and legacy assets., similar to the goals of a sovereign wealth fund.
Defined Contributions Are Creating a Saving Generation
Following the Revenue Act of 1979, significant changes evolved in the employment-based retirement plans that workers participate in. By 2014, 34% of all private-sector workers participated only in a defined contribution plan (DC) and 2% participated only in a defined benefit (DB). The 401(k) and 403(b) are the primary examples of DC plans.
The Defined Benefit plans pay retirement income benefits from a company sponsored pension plan. DB plans originally including lifetime health care and employment was stable so an employee had little incentive to save for retirement. In earlier times, financial obligations for college were low and assets were primarily residential property.
For current generation employees, the focus has changed to the accumulation of personal assets for retirement through payroll savings. Corporate America and financial services firms have made it easy to fund a retirement account. Auto-enrollment, target date funds, and company match contributions make the first steps in retirement saving easy.
Savings Are Creating the Potential For a Massive Wealth Transfer
It is interesting to consider that the current generation of workers could be the first to have significant inheritable assets remaining in their estate. The table below shows how assets owned and retirement incomes have flipped in the last 40 years. The majority of households now own assets they targeted for retirement spending versus receiving income from a pension. The shift was not instant and realistically late cycle baby-boomers to echo boomers may have struggled while the societal retirement scheme changed.
Source: Laurentide Advisory
Accumulated assets have become the main resource and protection for retirement income, low job stability, and education funding. Consider these points:
Action Steps You Can Consider Taking Now
American society has entered an era where many household will have assets to invest, build income streams from or make wealth fund legacy contribution. Below are three steps you can consider now for investing, building a legacy and governing your assets.
Recognize when assets are available to invest in education costs. Instead of an exclusive focus on retirement, aggressively direct assets to a newborn’s future education costs. Education investments have a shorter investment horizon for compounding of investment returns so small monthly contributions are not an optimal strategy. For the child's first 0-5 years favor education saving in lieu of excess defined contribution savings. For a 35-year-old with young children, education savings have approximately 16 years to compound while retirement assets can accumulate and grow for 30-45 years.
Use Roth IRAs as legacy asset vehicles. Qualified Roth IRA assets never pay income tax and you are not required to make withdraws. Held in a timeline from owner to spouse and then to an offspring as the Roth beneficiary the account can grow tax-free for a very long time. This legacy asset could be used to fund your great-grandchildren’s college or a first home investment. A Roth Conversion is available to everyone. The Tax Reform Act of 2017 has created a window of low personal tax rates, ideal for a Roth Conversion.
Build assets and challenge your risk tolerance. Invest like a professional. Model your financial life similar to a Sovereign Wealth Fund. Attached is a link to the Norwegian Sovereign Wealth Fund. The six-minute video discusses using resources for long-term goals and investment strategy.
Help your family achieve their goals and establish fiduciary governance. We suggest taking concrete action beyond being confident that you will be alright and quantify your goals. The potential outcomes can be far more comprehensive.
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John Kirby is a Principal and Co-Founder of Laurentide Advisory.