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401(k) Catch-up: Help for the Few

Longer lives, eroding Social Security benefits, and rising health care costs – these are just some of the reasons older workers need to save more in their 401(k)s.

To encourage them, Congress in 2001 approved a “catch-up contribution” for workers over age 50.  The size of this additional tax-deductible contribution started at $1,000 in 2002 and jumped to $4,000 by 2005 and $5,000 in 2006.  (After 2006, it continued to increase, though only at the rate of inflation, and is currently $6,000.)

But the catch-up contribution has not turned into a broad-based solution to Americans’ retirement woes that some proponents had claimed at its passage.  According to researchers at the Center for Retirement Research (which supports this blog), it helps only a select group of older workers: those who were already contributing at or near the tax-deductible maximum allowed on their regular 401(k) contributions. It’s a group with higher-than-average incomes and wealth than the typical older worker. …Learn More

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Home Buying Not Tied to Student Debt

A popular assertion these days is that young adults paying off student loans can’t afford to buy a house. This might be the financial equivalent of Chicken Little.

Contrary to concerns that the sky is falling – or, rather, the first-time homebuyer market is falling due to student debt – a new study finds very little evidence to support this view.

The researchers tracked the home-buying behavior of more than 5,000 college-going young adults for a full decade through the National Longitudinal Survey of Youth. They confined the analysis to people who attended college – graduates and non-graduates alike – in contrast to previous research that compared the behavior of all young adults and found that borrowing got in the way of homeownership.

The new study actually found they were slightly more likely than non-borrowers to purchase a house. But this could be due to the fact that the borrowers tended to be the type of people who persist and complete their degrees, attend more expensive schools, and possess other socioeconomic advantages. This comparison of borrowers and non-borrowers still didn’t settle the question of whether the probability of owning a home actually decreases as the level of student debt rises.

When the researchers further narrowed the analysis only to individuals who held student loans, they found no relationship between the amount of money borrowed and the probability of homeownership. “If you have $30,000 in debt you’re no less likely to buy a home than if you have $3,000 in debt,” said one of researchers, Jason Houle, an assistant professor of sociology at Dartmouth College.

The findings, Houle said, “cast doubt on this idea that student loan debt is dragging down the housing market.” …Learn More

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Retirement Researchers Convene Today

Why do older workers retire before they’d planned? How has the Affordable Care Act affected retirees in particular? And what’s known about U.S. immigrants’ wealth levels and Social Security contributions?

Researchers from around the country will present their findings on these and a range of other retirement topics during the 17th annual meeting of the Retirement Research Consortium, starting today at the National Press Club in Washington, D.C.

For the meeting agenda, click here.

The Consortium’s members are the Center for Retirement Research at Boston College (which supports this blog), the NBER Retirement Research Center, and the University of Michigan Retirement Research Center. The studies being presented are all funded by the U.S. Social Security Administration through the Consortium’s members.Learn More

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Misconceptions About Social Security

It is the most important source of retirement income for most workers. Yet too many older Americans lack a basic understanding of certain aspects of Social Security benefits.

In fairness, many people got some key questions right in a survey that quizzed them about the program’s rules and incentives. But a significant minority, and sometimes a majority, revealed a poor understanding of several major features of the program. As the researchers note, misunderstanding Social Security benefits could lead to poor financial decisions about retirement.

They analyzed responses by more than 2,300 people – all between ages 50 and 70 – to a nationally representative survey administered online in 2008. The survey, which took about half an hour, started with basic demographic questions before moving to various questions about components of the Social Security program.

Brief explanations of some program features appear below, followed by the percentage of survey respondents who provided incorrect answers, according to the researcher’s analysis of the results:

  • The U.S. Social Security Administration calculates pensions using a formula based on the average of a worker’s 35 highest years of earnings. This information is important, because each additional year of work could substitute current earnings for an early year of low earnings – or even zero earnings prior to the worker’s entry into the labor force.

68 percent were incorrect in their responses to a multiple choice question that included the correct calculation as one of four options.

  • A married person who has never worked is eligible for a pension equal to half of her spouse’s “full retirement age” benefit if the non-working spouse claims at her own full retirement age, and a reduced benefit if she claims earlier. …

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Student Debt Burdens Non-Grads More

Cover of bookThe share of college students who must borrow to pay for their education has surged over the past decade. Average borrowing per student is also much higher than it was in 2004, though there’s evidence it might now be in decline.

Only now is serious research trickling in about the personal financial fallout from the nation’s $1 trillion-plus in student debt outstanding. But one new study reaches an interesting conclusion about the burden of student debt: it “is much greater among non-completers than among those who obtain a college degree.” One reason is that they can’t expect to earn the higher income that a degree confers on a graduate.

The study – part of an edited volume published by the W.E. Upjohn Institute for Employment Research, “Student Loans and the Dynamics of Debt” – gauged the debt’s impact on various measures of personal financial stability, including the likelihoods of filing for bankruptcy protection and buying a house.

The researchers first analyzed a broad sample of U.S. households over age 29, controlling for income and other demographic characteristics. They found some negative impact as student debt levels rise, but this effect was “not particularly strong.”

However, there was a large impact on the financial stability of a subgroup of borrowers who had not completed their degrees. The personal finances of these “non-completers,” as the study called them, are “particularly susceptible to being burdened by student debt.”…Learn More

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Workers See Regular, Roth 401ks as Same

Due to differing tax treatments, each $1,000 placed into a traditional, tax-deductible 401(k) costs less today than $1,000 placed into a Roth 401(k), but that Roth will provide more money in retirement.

New research indicates that workers don’t recognize this difference between the two types of employer-sponsored retirement accounts when deciding how much to save.

A $1,000 contribution to a traditional 401(k) costs the worker less than $1,000 in take-home pay, because the income tax hit on the $1,000 will be delayed until the money is withdrawn from the account. But a $1,000 contribution to a Roth 401(k) costs exactly $1,000 in take-home pay, because the worker has to pay income taxes on it up front. The Roth funds, including the investment returns, will not be taxed when they’re withdrawn.

A Roth 401(k) might be thought of as shifting additional money into the future, allowing people to spend and consume more in retirement. (This assumes the same tax rate over a worker’s lifetime.)

The upshot: to get a set amount of after-tax money for retirement, workers could contribute less to a Roth than to a traditional 401(k). But that’s not what they do. …Learn More

Annuities: Useful but Little Understood

What makes a man tick

The general public is very cool on annuities. But many economists like the idea of retirees using some portion of their savings to buy them.

Annuities, with their fixed monthly payments, may be the best way to ensure retirees’ savings last just as long as they do. Otherwise, they may either spend it too fast and deplete their savings prematurely or spend too conservatively, depriving themselves of necessities in their old age.

New research suggests that one reason retirees don’t buy annuities is because they have great difficulty figuring out what they’re worth. When they try to figure this out, they bump up against their own cognitive limitations – limitations that only worsen with age.

In the study, 2,210 adults over age 18 were asked to estimate the value of a monthly annuity familiar to most workers: Social Security benefits. First, the research subjects were asked if they would pay $20,000 to “buy” a $100 increase in their monthly Social Security benefits. If the person said no, the survey repeated the question with a lower amount, eventually zeroing in on what this additional $100 benefit was worth to them. Next, the research subjects were asked to reduce – or “sell” – their monthly benefits by $100 in return for a specific dollar amount paid to them upfront.

In theory, the buy and sell prices they finally arrived at should be equal. But there was an enormous gap between the two. The median price research subjects were willing to pay was $3,000, and the median price at which they would sell was $13,750. There was also a wide range of sales prices among the individual participants: some would accept $1,500 or less, while others wanted $200,000 or more. …Learn More