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The US pension system may seem flush – but it ranks poorly compared to those in other developed countries.
Collectively, Americans had more than $39 trillion in wealth earmarked for retirement by the end of 2021, according to the Investment Company Institute.
However, the US ranks well outside the top 10 in various global pension rankings from industry players, such as the Mercer CFA Institute Global Pension Index and the Natixis Investment Managers 2021 Global Retirement Index.
According to Mercer’s index, for example, the United States received a “C+.” It was ranked No. 17 on Natixis’ list.
Here’s why the U.S. is falling short, according to retirement experts.
The US has a “patchwork retirement design”
Iceland topped both lists. Among other factors, the country provides generous and sustainable pension benefits to a large proportion of the population, has a low level of old-age poverty and has a higher relative degree of pension income equality, according to the reports, which use different methods. .
Other nations, including Norway, the Netherlands, Switzerland, Denmark, Australia, Ireland and New Zealand, also received high marks. For example, Denmark, Iceland and the Netherlands each received “A” grades, according to Mercer’s index.
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Where the United States largely lags behind those countries, experts said, is that the pension system is not set up so that everyone has a chance at a financially secure retirement.
“Even though we’ve invested $40 trillion, it’s a very uneven, fragmented, patchwork retirement design that we’re working on in the United States,” said Angela Antonelli, executive director of the Center for Retirement Initiatives at Georgetown University. “Some people do very, very well, but a lot of other people get left behind.”
Consider this statistic: Only three of the 38 countries in the Organization for Economic Co-operation and Development rank worse than the United States in age income inequality, according to the bloc of developed countries.
In fact, the poverty rate is “very high” for Americans 75 and older: 28% in the US versus 11% on average in the OECD.
Many Americans do not have workplace pension plans
The American pension system is often called a “three-legged stool,” consisting of Social Security, workplace programs such as pensions and 401(k) plans, and individual savings.
One of the structure’s primary shortcomings is a lack of access to workplace savings plans, according to retirement experts.
Just over half—53%—of American workers had access to an employer-sponsored retirement plan in 2018, according to a recent estimate by John Sabelhaus, senior fellow at the Brookings Institution and adjunct research professor at the University of Michigan. That’s an improvement from almost 49% a decade earlier, he found.
About 57 million Americans fell into the retirement savings “gap” in 2020, meaning they didn’t have access to a workplace plan, according to an analysis by the Center for Retirement Initiatives.
The US has a voluntary retirement savings system. The federal government does not require individuals to save, or businesses to offer pensions or 401(k). Individuals are also taking more personal responsibility for building a nest egg as companies have largely moved away from pension schemes.
By contrast, 19 developed countries require some level of coverage, by requiring companies to offer a pension plan, that individuals have a personal account, or a combination of the two, according to OECD data. In 12 of the countries, the schemes cover more than 75% of the population of working age. In Denmark, Finland and the Netherlands, for example, the proportion is close to 90% or more.
In Iceland, where coverage is 83%, the private sector pension system covers “all employees with a high contribution rate that results in significant assets being set aside for the future,” Mercer wrote.
IRAs aren’t a catchall for workers without a 401(k)
Of course, people in the U.S. can save for retirement outside of the workplace—for example, in an individual retirement account—if their employer doesn’t offer a retirement plan.
But that often doesn’t happen, Antonelli said. Only 13% of households contributed to a pre-tax or Roth IRA in 2020, according to the Investment Company Institute.
IRAs held nearly $14 trillion in 2021, nearly double the $7.7 trillion in 401(k) plans. But most IRA funds aren’t contributed directly — they were first saved in a workplace retirement plan and then rolled into an IRA. In 2019, $554 billion was rolled into IRAs — more than seven times the $76 billion contributed directly, according to ICI data.
Lower annual IRA contribution limits also mean that individuals cannot save as much each year as they can in workplace plans.
Americans are 15 times more likely to stash away retirement funds when they can do so at work via payroll deductions, according to AARP.
“Access is our No. 1 issue,” said Will Hansen, director of government affairs at the American Retirement Association, a trade group, about workplace retirement savings. Small business employees are the least likely to have a 401(k) available, he added.
“[However]the pension system is actually a good system for those who have access,” Hansen said. “People are saving.”
But the retirement security offered by those savings is skewed toward high-income households, according to federal data.
Low-wage earners, on the other hand, “seem to be more likely to have little or no savings in their [defined contribution] accounts,” the Government Accountability Office wrote in a 2019 report. A 401(k) plan is a type of defined contribution plan, where investors “define” or choose their desired savings rate.
Only 9% of the bottom quintile of earners have retirement savings, compared to 68% of middle-income earners and 94% of the top quintile, according to a 2017 Social Security Administration report.
Aggregate savings are also “constrained” by low wage growth after accounting for inflation and rising out-of-pocket costs for items such as health care, the GAO said. Longer lifespans put more pressure on nest eggs.
Social Security has some structural problems
Social Security benefits – another “leg” of America’s three-legged stool – help compensate for a lack of personal savings.
About a quarter of elderly households rely on these government benefits for at least 90% of their income, according to the Social Security Administration. The average monthly benefit for retirees is approximately $1,600 as of August 2022.
“It doesn’t put you much above the poverty level,” Antonelli said of Social Security benefits for people with little or no personal savings.
There are also some looming structural problems with the Social Security program. Absent measures to shore up funding, benefits for retirees are expected to fall after 2034; at that point the program would be able to pay only 77% of scheduled payments.
Furthermore, individuals can raid their 401(k) accounts in times of financial distress, causing so-called “leakage” from the system. This ability can inject much-needed cash into struggling households in the present, but could expose savers to a shortfall later in life.
The “leakage” factor, combined with relatively low minimum Social Security benefits for lower earners and the projected shortfall of the Social Security Trust Fund, “will have a significant impact on the ability of the U.S. pension system to provide adequately for its retirees in the future,” it said Katie Hockenmaier, Research Director of US Defined Contribution at Mercer.
“There has been tremendous progress”
Of course, it can be difficult to compare the relative successes and failures of pension systems on a global scale.
Each system has evolved from “particular economic, social, cultural, political and historical circumstances,” according to the Mercer report.
“It’s hard to say that the U.S. is very far behind when there are so many other external policies that countries have that affect their citizens and how effective their retirement will be in the long run,” Hansen said.
Errors in health and education policy bleed into people’s ability to save, Hansen claimed. For example, a high student debt burden or large health care bills can cause a US borrower to delay saving. In such cases, it may not be fair to place the main blame on the structure of the American pension system, Hansen said.
And there have been structural improvements in recent years, experts said.
The Pension Protection Act of 2006, for example, ushered in a new era of savings, in which employers began automatically enrolling workers in 401(k) plans and increasing their contribution amounts each year.
Recently, 11 states and two cities — New York and Seattle — have adopted programs requiring businesses to offer retirement programs to workers, according to the Center for Retirement Initiatives. They can be 401(k) plans or a state-administered IRA, into which workers will be automatically enrolled.
Federal lawmakers are also weighing provisions — such as reduced costs relative to factors such as plan compliance and a boost in tax incentives — to encourage more use of 401(k) plans among small businesses, Hansen said.
“For the last 15 years – and now with regard to further reforms in Secure 2.0 [legislation] “There has been tremendous progress in recognizing that there is room for improvement in the design of our American pension system,” Antonelli said.