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The Five Big Lies of Retirement Planning

September 7, 2010
&&Rande Spiegelman
CPA, CFP®, Vice President of Financial Planning, Schwab Center for Financial Research
Key points

  • What passes for conventional wisdom when it comes to retirement planning often amounts to little more than wishful thinking.
  • Here we expose five big myths of retirement planning.
  • Helpful information for people of all ages who are planning for retirement.

When it comes to retirement planning, there's no shortage of conventional wisdom, even if there is a shortage of actual savings. But often what passes for wisdom amounts to little more than wishful thinking. So take off those rose-colored glasses! Recognize the five big lies of retirement planning—and make sure they don't undermine your own retirement.

  1. You'll only need 70%–80% of your pre-retirement income. Work-related costs go away when you retire, and the kids are hopefully financially independent. But other expenses can take their place, such as health care (particularly if you retire before 65, the age when Medicare kicks in), increased travel and leisure, etc. And, if you refinanced your home recently for a longer term, you may still be paying off your mortgage for some time to come. The old 70–80% income rule of thumb may still work for some folks, but it's probably better to assume you'll need to replace 100% of your pre-retirement income (less whatever you were saving for retirement). Consider this: Despite roughly half of retirees finding they actually spend as much or more in the early stages of retirement than they did before they retired, only 11% of current workers expect to spend more in retirement, with nearly 60% expecting to spend less.1
  2. When you retire, you'll be in a lower tax bracket.  Even workers in higher brackets may find that Social Security income, pensions, taxable portfolio income and retirement account distributions combine to keep them in the same or an even higher bracket in retirement. In addition, marginal tax rates are at relatively low historical levels. As recently as the 1980s, the top federal bracket was a whopping 70%! Even if your taxable income level remains the same, higher tax rates in the future could boost your tax liability. Unless you have good reason to believe you'll pay lower taxes in retirement, why not plan on the same bracket when you retire? If it turns out your tax bill is lower after all, you'll be that much better off.
  3. You can always just keep working.  Part-time or even full-time work at something you enjoy can be a fulfilling way to generate extra retirement income and social interaction. But, that presumes both you and the job market for seniors remain healthy. The Employment Benefits Research Institute's 2010 Retirement Confidence Survey found that about 40% of retirees left the workforce earlier than planned due to health problems, company downsizing and workplace closure. Hopefully, you won't be forced out of the job market prematurely, but wouldn't it be better to plan on working longer because you want to, and not because you have to?
  4. The stock market will save you.   Hopefully, the 2000–2002 bear market and the 2008 financial meltdown did away with any notion that the stock market can do your saving for you. For long-term planning, it's smart to plan on high single-digit equity returns and (despite today's extraordinarily low interest rates) about half that for bonds. Also, don't assume the same return every year. Market returns (even real estate) fluctuate from year to year. Your planning should consider a range of outcomes to help assess the likelihood of meeting your goals.
  5. There's always Social Security.  With Social Security, it's especially hard to separate truth from fiction. According to some, the status quo is fine. Others see bankruptcy as imminent. The Social Security Administration projects that the current system is sound through 2036, but beginning in 2037 benefits could be reduced by 22% and could continue to be reduced annually.2 One scenario we might see, besides benefit reductions and tax increases, is means testing, which could result in a middle-class squeeze: The wealthy aren't eligible but are fine on their own, and the needy are entitled to receive full benefits, but those stuck in the middle get something less than hoped for. Wouldn't it be preferable to save a little more for the future—even if it means spending a little less now—so you can treat any Social Security payments as icing on your retirement cake, rather than the main course?

Don't be a "Gloomy Gus"
A small dose of skepticism can be healthy when it comes to conventional wisdom, but avoiding the Pollyanna label doesn't mean you need to become a hard-core cynic. After all, a high single-digit return for stocks still means you could double your money every eight years or so, which wouldn't be bad. And it's doubtful that every last penny of Social Security will dry up or that every single corporate and public pension will fail. Stay balanced—don't be overly optimistic and run the risk of failing to meet your goals because your plan depends on everything going just right, but don't be overly pessimistic and sacrifice more of your lifestyle than is necessary.

Reality check: Spend less, save more
No other factor comes close to ensuring retirement success as the amount that you're able to save. The flip side of that, of course, is how much you spend. Living below your means before retirement has a double benefit—it allows you to save more for the future and reduces the size of the nest egg required to maintain your standard of living. The alternative means growing accustomed to a lifestyle of spending you won't be able to support when you stop working. Spend less and save more, and you won't need to pin your hopes on wishful thinking.

Record Retention Guide

Rev. 07/21/05, E-mail Alert 2005-14
ERISA sets forth specific reporting and disclosure obligations with respect to qualified retirement plans. A lesser-known fact is that ERISA also requires plan sponsors to retain for a fixed period of time the records that support the information included in the 5500 filing and other reports.

The topic of record retention can be broken into three general areas:

  1. What records should be kept?
  2. How long should they be kept?
  3. How should these records be archived?

The short answer to these three questions is that all plan-related materials should be kept for a period of at least six years after the date of filing of an ERISA-related return or report, and the materials should be preserved in a manner and format (electronic or otherwise) that permits ready retrieval.

All records that support the plan’s annual reporting and disclosure should be retained. The responsibility to retain these records lies with the plan administrator (the employer). While it is fairly common for a plan sponsor to contract with outside service providers who may provide certain reports and prepare the 5500 filing, the plan administrator remains ultimately responsible for retaining adequate records that support these reports and filings. In addition, the DOL requires employers to maintain records sufficient to determine the amount of benefits accrued by each employee participant.

The documents that a qualified retirement plan must retain for ERISA purposes include the following:

  • The original signed and dated plan document, and all original signed and dated plan amendments. Make sure the dates and signatures are easily visible;
  • Copies of all corporate/partnership actions and administrative committee actions relating to the plan;
  • Copies of all communications to employees. These include Summary Plan Descriptions, Summaries of Material Modifications, and anything else describing the plan that is provided to participants or beneficiaries. Remember to include copies of videos, slides, and e-mails;
  • A copy of the most recent determination letter from the IRS, or the form to request that determination letter, if one is pending;
  • All financial reports, including Trustees’ reports, journals, ledgers, certified audits, investment analyses, balance sheets, and income and expense statements;
  • Copies of Form 5500;
  • Payroll records used to determine eligibility and contributions including details supporting any exclusion from participation. It is critical that sponsors keep complete census data, not just data on those who are eligible;
  • Hours of service and vesting determinations;
  • Plan distribution records, including Form 1099Rs;
  • Corporate income tax returns (to reconcile deductions);
  • Evidence of the plan’s fidelity bond;
  • Documentation supporting the trust’s ownership of the plan’s assets;
  • Copies of all documents relating to plan loans, withdrawals, and distributions. Include copies of spousal consents;
  • Copies of nondiscrimination and coverage test results;
  • Any other plan-related materials, such as claims against the plan;

As noted above, generally, these documents should be kept for a period of six years after the date of the filing to which they relate. However, good practice suggests that certain records be kept for the life of the plan; this would include all plan documents dating from the plan’s inception. The thicker the paper trail, the easier it will be for the plan to respond to an inquiry from a governmental agency or a request for information from a plan participant. Records must be kept in a manner in which the records can be readily retrieved. To the extent that records are lost, stolen or destroyed before the expiration of the six-year period, the plan administrator will be required to recreate the records, unless to do so would result in excessive or unreasonable costs.

According to DOL regulations, electronic media may be used for purposes of complying with the record retention requirements provided the following requirements are met:

  • The recordkeeping system has reasonable controls to ensure the accuracy of the records;
  • The recordkeeping system should be capable of indexing, retaining, preserving, retrieving and reproducing the electronic records. The retrieval issue becomes more interesting as equipment is updated and upgraded. For example, records retained on floppy disks may fail this test, if no system drives are maintained to read that media;
  • The electronic records can be readily converted into legible paper copies;
  • The electronic recordkeeping system is not subject to restrictions that would inappropriately limit the access to the records.

Most original paper records may be disposed after they are transferred to an electronic recordkeeping system, provided the recordkeeping system complies with the above requirements. It is important to note that the original may not be discarded if it has legal significance or inherent value in its original form (e.g., notarized documents, insurance contracts, stock certificates, and documents executed under seal).

Proper and complete archiving of plan records is essential. Due to technological advancements, many transactions do not take place on paper, which is an added challenge to the recordkeeping requirements. None-the-less, the plan’s records should be reviewed periodically, updated, and, to the extent possible, purged. This will be time well spent and can do double duty as an overall audit of the plan’s operations.
As a practical matter, plan sponsors may want to keep records for a longer period of time in case of legal actions from participant divorce actions (QDROs) or lawsuits from disgruntled employees.

Six ways to prepare for the first benefit plan audit

By Scott Goodwin
December 6, 2011

As companies grow over time, they achieve certain milestones. Hitting 100 employees for the first time is one such milestone.

Once you’re done celebrating this major accomplishment, there are a number of issues to start thinking about including the “80-120 rule” for employee benefit plans. Although the details of the “80-120 rule” can be tricky, if you expect your business and head count to continue growing your employee benefit plans will probably exceed 120 participants. If that happens, under Department of Labor rules, you will be required to have the employee benefit plan audited with the results submitted to the DOL.

For the first time, an independent auditor will be looking at your company’s adherence to the employee benefit plan document, timeliness of deposits, accuracy and completeness of your employee personnel files, and how forfeitures are handled. All of this will be done with the protection of the plan participants in mind.

To make sure that your first employee benefit plan audit is a success, it's wise to do a “pre-audit” today to make sure that everything is in order before your auditors arrive. Not only will this ensure a successful audit, but it will also improve your oversight and administration of the plan today.

Here are the important areas related to the administration of your employee benefit plan to include in your “pre-audit”:

  • Read the plan document – You probably haven’t read it for some time. That’s understandable. It’s long, written in legalese, and you may think that you’ve been following it all along. Often, those administering the plan fall into a routine and inadvertently stray from some of the terms of the document. Take time now to go back to the plan document, read it closely, refresh your memory on all of the key elements, and make sure you are operating in accordance with the plan document.
  • Check your personnel files for completeness – In the past, when employee files were maintained entirely in hard copy, the importance of obtaining and maintaining copies of all personnel records in a single location was clear. Today, employee information exists in a mix of electronic documents and hard copies and can be less formal, which leads to the possibility of these files being incomplete or inaccurate. If your employee benefit plan is audited in the future, the auditor will compare the employee information on file with the census information maintained by the plan’s record keeper. Inaccuracies between personnel files and plan census information can lead to participants being admitted to the plan, becoming eligible for employer contributions and vesting in those contributions inappropriately.
  • Get to know the “timeliness of deposit” rules – It is imperative that you remit the employees’ contributions as soon as those contributions can reasonably be segregated from the company’s assets. Some companies believe they have 15 business days to remit employees’ withholdings to the plan when in fact this is not a safe harbor. In evaluating the timeliness of your deposits, the DOL will consider, among other factors, the pattern you have established for remitting withholdings and your ability to segregate other types of withholdings (eg. Social Security). Complying with the latest “timeliness of deposit” rules will prevent a DOL prohibited transaction from occurring and assist with a smooth plan audit.
  • Review the definition of compensation – In the plan document, there is a very clear definition of what is considered compensation relative to the employees’ contributions, and it must be followed. Certain types of special compensation, including bonuses, overtime, and tips, are sometime treated by the plan administrator differently than basic salary. It’s best to have a clear understanding of how your plan document defines compensation and ensure that you are treating all such compensation accordingly.
  • Review the SSAE 16 reports of your service providers – Every year, you should receive a copy of the SSAE 16 (formerly “SAS 70”) report from your service providers, including your payroll provider and plan record keeper. While the SSAE 16 is long and hard to read, you can cut to the chase and learn a lot by reading the user controls consideration section. This section of the report provides you with a clear checklist of where your company needs to have appropriate internal controls in place. Many plan administrators are surprised at where the line is drawn between their responsibilities and the service provider’s responsibilities. Know where these areas are and build or strengthen your internal controls to be prepared for when the auditor starts asking the questions.
  • Assess how forfeitures are being handled – When participants leave the plan before full vesting, any forfeited amounts are left behind. This brings us back to our first point: read the plan document. The plan document has clear instructions on how this money should be utilized that are sometimes not followed. The DOL also has regulations about the treatment of forfeitures that need to be considered. Since these amounts may often be used to reduce employer contributions, appropriate and timely utilization of forfeitures can actually save the company money, not to mention preventing problems with the audit.

If you know that your benefit plan is going to have 120 or more participants for the first time or is heading in that direction, it is wise to take a fresh look at the operations surrounding your employee benefit plans to prepare for your first audit. Reexamining and updating your practices will benefit the company, the plan, your employees, and your auditors.

Offering a 401(k) Plan: Easier Than You Think

Written By Chad Parks
Published December 05, 2011

A national crisis has flown virtually under the radar.

The fact that more than 40 million American employees have no retirement plan option at their place of work is not even a topic of discussion—and it’s time to change that.

The majority of those 40 million workers, according to the U.S. Small Business Administration, are employed by small businesses, or companies with less than 100 employees. In fact, 72% of workers at small companies have no employer-sponsored plan available to them, reports the SBA.

The smaller the company, the less chance of a retirement plan being offered--and that includes sole proprietor businesses.

There are many reasons why smaller companies lack retirement plan offerings. However, in my experience working with thousands of small businesses, oftentimes, entrepreneurs buy into so-called facts about 401(k) plans that turn out to be complete misconceptions.

As most businesses evaluate their benefits around the end of the year, now is a good time to address four common myths about 401(k) and to set the facts straight.

  1. Myth: Matching is a must  Oftentimes, small business owners believe the 401(k) matching option is a requirement. While it’s a nice employee perk, it’s the employer’s choice to match contributions. At their core, 401(k)s are designed to allow employees to save $16,500 tax-free annually. In 2012, that number jumps to $17,000. Employers uninterested in matching can simply put a plan in place and let their employees contribute and take immediate advantage of the government’s match through tax-deferred savings.
  2. Myth: It’s too expensive to set up and maintain  For many employers, the thought of an added expense through hefty administrative fees is a deterrent to offering a 401(k) plan. However, small businesses can offer a plan for less than what they pay to fill the water cooler. There are all-inclusive, flat-fee plans with low cost investment options, which can be found for as little as $95 per month. Business owners can also take advantage of a tax credit for the costs of setting up a retirement plan. The credit equals 50% of the cost to set up and administer the plan up to a maximum of $500 per year for each of the first three years of the plan.
  3. Myth: It’s time consuming and not for me  As the saying goes, time is money, especially for small businesses. The supposed time commitment associated with starting and managing 401(k) is a turnoff for many entrepreneurs.  A plan can actually be implemented in less than a week, and should take no more than an hour monthly to maintain in a web-based environment. Small businesses frequently encounter plans that are designed with big businesses in mind. Confusing language and a one-size-fits-all prototype can lead small business owners to conclude 401(k)s are not built with their business in mind. This is no longer the case. Plans have been developed that cater specifically to the needs and budgets of small business.
  4. Myth: You have to settle for poor advice and high fees  Small businesses should not fear having to settle for bad advice and high fees because of their size. Never settle for an inferior plan or high fees. Through independent third-parties, small businesses can access low cost, effective funds for their 401(k) plan. You do not have to be stuck with poor performing, high costs funds that eat away at returns. Scalable, objective guidance is also available to small businesses that need help picking their investments. Employees should not feel talked down to or deserted when managing their nest eggs. Participation in a 401(k) plan is one of the easiest, cheapest ways for employees to save for retirement. For small business owners, it’s an attractive recruitment and retention feature. Make sure you ask questions and get the facts when it comes time to implement a 401(k) plan.

New Survey Reveals How 401k Plan Sponsors Rank 8 Hot Topics

By Christopher Carosa, CTFA | December 20, 2011

Deloitte Consulting has just issued the 2011 Edition of its Annual 401k Benchmarking Survey. The comprehensive study explores a multitude of areas 401k plan sponsors will no doubt have great interest in – from investments to fees, from plan policies to service providers. What might be most revealing, and what might surprise many so-called industry pundits, has to be how 401k plan sponsors ranked the eight hot topics presented to them.

While Deloitte doesn’t offer any specific ranking in the body of its text, the firm does provide the raw data in the appendix of the report. took that raw data and used a parliamentary style of weighting typically employed by market research firms to rank responses. What we found tends to explain a lot of what’s being reported in the 401k media. It might also be useful to the typical 401k fiduciary who’s trying to benchmark plan priorities.

We present the results here in reverse rank order.

#8 (Weighted Rank: 3.06) New retirement income solutions to create lifelong retirement goals. This topic, which addresses the issue of annuities, not only ranked the lowest, it ranked far below those above it. Data from elsewhere in the survey indicates roughly three-quarters of the respondents are not considering annuities, a resounding thumbs-down for a product that’s been so heavily promoted recently. Another article this week (“Plan Sponsors Remain Cool to Annuity Products,” (Institutional Investor, December 19, 2011) postulates that both high fees and increased fiduciary liability are keeping plan sponsors away from these products.
#7 (Weighted Rank: 3.71) Improving the quality and/or accuracy of administrative service. While significantly higher than the lowest ranked topic, this topic, relating to satisfaction with recordkeeping services, still lagged behind the clump of hot topics immediately above it. This is consistent with data shown in the survey where 91% of the respondents are either “satisfied” or “very satisfied” with their recordkeeper.
#6 (Weighted Rank: 3.81) Retirement readiness of active participants. The next three hot topics are packed fairly tightly. This topic addresses both the deferral rates and the education level of employees. Bear in mind these rankings are relative and may not speak to the level of importance of any particular topic. This topic is a good example as survey data also shows 84% of the respondents feel they should at least take an interest in – if not feel very responsible for – helping employees be best prepared for retirement. Indeed, the survey shows only 15% of the plan sponsors feel “most employees are or will be financially prepared for retirement.”
#5 (Weighted Rank: 3.85) Improving plan governance, compliance and controls. This topic ranks very close to the topic immediately above it and immediately below it. Other responses in the survey explain why this topic isn’t of major concern. The survey indicates 91% of the plans have a formal investment policy statement and 84% and written due diligence procedures.
#4 (Weighted Rank: 3.90) New Disclosure Regulations 404(a) and 408(b)(2). A case can be made that this topic and the one ranked immediately below (#5 listed above) are very similar. It is understandable, however, that this new regulations would have a greater urgency than generic compliance issues. Of interest, 90% of the plans responding expect their recordkeeper to provide help with relevant disclosures.
#3 (Weighted Rank: 3.99) Improving understanding of (and potentially reducing) plan expenses. Again, this topic is similar to the topic ranked immediately below it (#4 above). Here’s the unexplained irony of this survey (and what may reveal the very real likelihood for sticker shock once 408(b)(2) kicks in): 84% of those surveyed feel their fees are competitive yet fully 76% admit to being in a bundled relationship. Bundled relationships often feature higher fees.
#2 (Weighted Rank: 4.08) Reducing plan risk and potential fiduciary responsibility. One might read into this topic “reducing potential fiduciary liability.” Many might feel this topic ranking a clear #2 might be surprising, especially since the plan sponsor cohort has been mysteriously silent on the whole issue of the DOL’s proposed new definition of fiduciary. That this topic ranks so high could be a signal they’re listening. The question is: Does the DOL recognize plan sponsors are listening?
#1) (Weighted Rank: 4.33) Providing the right investment to help participants achieve retirement goals. This topic is related to the #6 ranked topic (retirement readiness of active participants). Given the nature and purpose of retirement plans, this should always rank as the top priority for plan sponsors and fiduciaries. That it has received so little treatment from the 401k media of late might be what is really surprising. There’s been a large body of research, particularly in the area of behavioral finance, addressed this issue on point (see “3 Ways 401k Plan Sponsors Can Help Employees Make Better Investment Decisions,” “3 More Ways 401k Plan Sponsors Can Help Employees Make Better Investment Decisions” and “Avoiding Decision Paralysis: How to Create the Ideal 401k Plan Option Menu.”