Thoughts on why 401(k)’s are a bad idea.

The following thoughts were posted at reddit by user /u/listenthenspeak, a millennial who has worked extensively in the financial sector. Reposting here as a signal boost for wider exposure. The writer’s thoughts are cogent and compelling, and backed up with ample documentation.

The original post at reddit linked to an article stating that millennials have little confidence in most major institutions.

The writer’s first comment was as follows:

I was born in 1977, it’s not just millenials. And for people who are teenagers now I can say at least in my experience that YES things are worse for everyone now than they were 20 years ago.

Even my parents who grew up in the 60s say that things are quantifiably worse for working Americans.

In the last 30 years we have witnessed (among other things):

  • The largest economic downturn since the depression
  • Skyrocketing housing prices that lock most families out of home ownership in major urban areas.
  • Financial scandals on an unprecedented scale (Arthur Andersen, Worldcom, Tyco, Enron) and hardly anyone was punished.
  • Two major wars. We fought in Iraq for 8 years and in Afghanistan for 13 years. We lost a combined 6,000+ soldiers with tens of thousands more wounded and spent 1.7 trillion dollars with 400 billion more that will be spent in the future.
  • The cost of education is becoming all but unobtainable. Rising education costs mean that millions are locked out of home and car ownership because of student loan payments.
  • The cost of medical care is unsustainable and out of reach for most families. A single illness even with insurance could bankrupt your family and decades worth of labor.
  • The loss of both unions and pensions. You can track the decline in unions and the decline in real wages across the decades along with the loss of benefits. If you want to chime in with “well I’m ok… have…” well good for you. Most people don’t. Most young Americans today simply will never retire even in their final years. A lack of social security, a lack of pensions, and a lack of viable options for saving (no 401k is not sustainable but that is a whole other rant) means that we will be able to save very little in our working lives.

For people that are curious, this didn’t just come about. This is a process that has been underway for 40 years. The top 1% of the country (and really its more like the top 1% of the 1%) have actively funded lobbyists and campaigns and laws at the local level all the way to DC to fundamentally strip workers of their rights, roll back protections for working families, undermine social safety nets, reduce their tax burden at the expense of everyone else, eliminate the ability for the elderly to retire in security, and have squandered trillions of dollars to “protect American interests” which basically means the interests of a few connected corporations.

So yeah…. it’s no wonder people don’t trust major institutions. Especially now that we’re witnessing a presidential campaign that consists of an almost Machiavellian woman running against a man who is almost literally insane.

The following segment was in response to a question about why 401(k) accounts are unsustainable.

Hey sorry it took so long to get back to you. Family stuff and I wanted to actually give you a good answer for this.

So to start I have to tell you a bit of my background. I worked in finance which among other things included working as a pension and defined contribution auditor along with working in a bank for a time.

I’ll start with my anecdotes and a bit of history. The piece of legislation that allowed the 401(k) was created in the 1970s as a way to offer more benefits to high-wage executives in lieu of additional payments. The intent was originally to create an additional way for high-earning executives to put more money aside for retirement as a BONUS to what they were already getting from their companies and from social security. It was never intended even from the start to be a replacement for pensions or social security. We have to make that very very clear from the outset.

It was designed to offer extra compensation to already well-off employees as a way to spruce up fringe benefit packages.

You can read a bit about the history of the plan here.

And you can check out the wiki here

Obviously by the 80s it didn’t stay that way and it soon became the norm to offer defined contribution plans to office workers.

Cut to today.

I worked as an auditor and saw the insides of plans for hundreds of companies and in my experience what I saw made me begin to question the viability and the sanctity of people always pushing the 401(k) as a way to retire. My anecdotal experience was that in a company of roughly 100 people you would have 1, maybe 2 employees who were maxing out their contributions. Those were always the higher earners, senior engineers, CFOs, assistant controllers, presidents, those types. The average account balance that I saw for employees was usually between 5 and $10,000 even after years of contributions. The average balance for executives (those 1 or 2 people) was around $100,000. My anecdotal experience seems to be a bit low according to stats because the average balance is actually all over the map.

Some figures that I’ve read say people have as little as $19,000 in their 401(k).

Investopedia has a decent breakdown of balances by age but point to the fact that it is always too low to sustain people in retirement.

The Economic Policy Institute

says the average balance is around $34,000 but this varies widely by race, income, and age so you have to dig a big, but again the takeaway is that Americans have almost nothing saved in their 401(k) plans.

Zerohedge (which I don’t consider a good source most of the time) has a fairly accurate stat in this case saying that the average contribution is a very low $2,700 a year, which is certainly not enough to retire on even with growth and dividends.

The GAO (which is a fantastic source) has a great read that is fairly dry. The tldr is that we don’t have enough saved for retirement and aren’t contributing enough

This talks about income from all sources not just 401(k)

So we’re contributing… not that much to our 401(k) plans so how will that affect us in retirement?

Well it won’t give us income.

Motley fool has a decent writeup saying that at current and average saving rates, the 401(k) will provide only around $4,000 a year.

That is supplemental income that might help you pay your electric bill or buy some extra groceries, but you certainly can’t live on that.

But that applies to everyone right? Everyone will at least have something in retirement right?

Not even close.

Around 50% of households in the US aren’t even eligible for a 401(k) and of the people that are eligible only a portion of them contribute. So you have close to 70% of Americans NOT contributing to a plan.

This is a structural crisis that needs to be addressed at the national level because more than 2/3rds of Americans aren’t putting money away for their retirement and of the ones that are, most will not have enough to do anything beyond supplement a very meager existence.

A full 30% of workers have literally zero dollars saved for retirement.

So at this point you could say, well why don’t people simply contribute more or get into a plan… there are Roth IRAs there are 403(b) plans there are ways to save right? And it’s because we simply don’t have the money. Families cannot afford to put aside even more money because real wages aren’t rising at the same time that housing, education, food, and healthcare are eating what we have left.

Most households don’t even have $1,000 in savings.

Most households can’t even cover an unexpected $500 bill

So how does that last part relate to my talk about 401(k) plans?

We as a nation are prioritizing the wrong way to save. The 401(k) is an addendum policy for wealthy workers that spread and became the “norm” but it simply doesn’t work when implemented as a main way to save. That is why I say that it is unsustainable. Of the people that do save (and you can watch the John Oliver on this) fees are a hugely contentious issue that can destroy people’s contributions.

It’s a broken policy for savings that needs to be scrapped.

So what is the solution? Well… as a former financial insider, banker, analyst, and auditor my take is this… we need a legally protected, quasi-independent nationalized system that everyone contributes to.

One of the biggest issues with social security is that it IS solvent but congress keeps borrowing from the trust with limited assurances that they can pay the money back. Social security DOES work if you don’t spend the money you collect for it on other things.

We need something held in trust that legally cannot be touched by Congress held in an entity similar to the Fed (quasi independent) that will hold individually numbered accounts for all of us. When we’re born you get something like $1,000 put into that fund and as long as your parents are working, from birth you get another $500 or $1,000 a year put into that fund until your 18th birthday. Then it’s on you and there would be 3 components. Your contributions, your employers contributions and the government’s contribution.

You could use actuaries to create a pension that has money coming from tax revenues (the government portion) you could include contributions you make to the plan (your side of the contributions) and your employer would contribute to your account at a rate that they could set (so this could be part of how they compete with other employers). You have a 3 legged stool basically. Three sources of money in and one source of money out.

That quasi independent agency would then have a fiduciary responsibility to oversee all of those assets (again just like a pension) and invest in AAA rated bonds, safe municipal projects, and a broad base of blue chip stocks and an index of all the funds on the market.

You could even offer a limited range of options like “low, medium, and high” for risk tolerance where the low would invest only in things like low interest treasury bills, municipal bonds, and AAA rated projects that pay a low but dependable amount of interest, medium risk could be a blend of index funds and bonds, and the high risk could all be stocks in an index fund. This would provide for growth and investment, ensure all Americans get a fair go at retirement, and ensure that Congress can’t purloin the proceeds with a promise to simply pay it back at an unforseen date.

We need to try something new and the private market is not the solution because when you try to separate people from their money you create perverse incentives. The government should ABSOLUTELY be involved in securing people’s retirements and ability to provide for themselves in their old age.

I know this is a long answer but I hope this was a well-thought out response to your question and I hope it encourages you to do further reading. This is only my opinion based on my experience in industry but I feel it is a valid opinion backed by economic data and experience.

No further comment needed by the Old Wolf.

3 responses to “Thoughts on why 401(k)’s are a bad idea.

  1. There are some good points here. However, I would like to point out that it is possible to contribute more if one tries hard to live below one’s income. One of my favorite techniques was to bring my lunch and snack to work every day, though I knew nobody else who did that. I rarely bought lunch out; it was just too rich for my blood. So I saved about $1000/year (in maybe 1990 dollars) and diverted it into my 401(k) and Roth IRA. It’s paid off nicely for me.

    That’s just one way that I saved money while practically nobody I knew did. There are lots of others. Turns out that resisting peer pressure can be good. Who knew?

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