In his State of the Union address last month, President Obama briefly mentioned plans for a new retirement savings account, aimed at the millions of primarily low income workers who don’t have access to a workplace savings program like a 401(k).
About 57 percent of workers can save for retirement through employee accounts, and about 48 percent participate, according to The National Institute for Retirement Security. Minorities, low-wage workers, and small business employees are much less likely to have access to a retirement plan.
The proposed myRA [rhymes with IRA] account would allow Americans making less than $191,000 and working for a company that doesn’t offer a retirement plan to open a retirement account with an initial deposit of as little as $25 (and ongoing deposits starting at $5 per paycheck) that would invest money into government bonds and grow tax-free.
“It’s a new savings bond that encourages folks to build a nest egg,” Obama said in his speech. “MyRA guarantees a decent return with no risk of losing what you put in.”
It’s a lofty idea, and the country certainly needs some big ideas to combat a growing retirement crisis – almost half of Americans are not confident they’ll be able to save enough for a comfortable retirement, and a third of middle class Americans thinks they’ll have to work until they are “at least 80” because they will not have saved enough, according to a recent report by Wells Fargo.
In practice, the myRA will likely do little to properly prepare people for retirement, although it could provide a decent vehicle for amassing emergency savings (another area in which Americans are sorely lacking). Here’s why:
1. There’s no incentive to save. Part of the reason people invest in their company 401(k) plans is to take advantage of the substantial tax breaks that come with such savings, as well as a potential savings match from their employer. Unfortunately, myRAs offer no matching funds, and the low-income savers targeted won’t benefit as much from the tax advantages because they fall into a lower tax bracket. “Who cares what the tax deduction is if you’re paying 10 percent or less in taxes anyway,” says Anthony Kure, owner and president of Kure Net Worth Management.
2. The return is terrible. Money stashed in a myRA account will be invested in bonds with interest rates tied to the Government Securities Investment Fund. In the last year, that fund has returned a paltry 1.98 percent. That’s better than the average savings account, which is returning just 0.17 percent (although some credit unions are offering more than 2 percent), but it’s barely beating inflation, which edged up at an annual rate of 1.6 percent in January.
3. There’s no early withdrawal fee. One reason that savers are hesitant to touch the money they’ve stashed in a 401(k) or an IRA account is that there are severe tax penalties for making withdrawals before you’re reached retirement age. There are no such provisions attached to myRA accounts, some savers may dip into them any time they need a little some extra cash. If the accounts provide true emergency savings that could still benefit users, but if they’re raiding them to buy televisions or take vacations, the accounts are adding little value.
4. The amounts can’t cover retirement. The reason the myRAs have such a low threshold for deposits is to lift any barriers to entry for low-income savers who can’t scrape together the typical $1,000-$3,000 required to open an IRA with a brokerage house. If savers stick to the minimums, however, they’ll never amass enough money to make a meaningful contribution to their retirement needs.
If an investor contributed $5 per pay period and received even a 3 percent return (which is considerably higher than what the G-Fund is currently paying out), he would have $1,500 after 10 years, $3,500 after 20 years, and $6,300 after 30 years. “It’s a good idea, but when you actually put the numbers to paper, these accounts won’t lead to lasting retirements,” says Patrick McGonigle, a financial planner with CJM Wealth Advisors in Fairfax, Va.
5. There’s a reason people aren’t saving for retirement. Even if these myRA savers were able to put away the $15,000 required to convert the account into a traditional IRA, they face other financial planning issues that will make retirement tough. Half of Americans surveyed by Bankrate.com this month said that they owed more money on their credit cards than they had saved in an emergency account.
Most financial planners agree that eliminating high-interest debt and establishing an emergency fund should be a priority before putting money aside for retirement, particularly if the retirement account doesn’t offer an employer match, a return that higher than the interest on the debt, or much by way of tax savings.
6. Business don’t have to opt in (and neither do workers). The government has said that it will pick up the administrative costs of the program for employers, but it remains to be seen whether companies that haven’t previously made retirement savings for their employees a focus will suddenly see the light. Studies show that in order to really get workers to participate, the company would need to implement an auto-enrollment program, which is not part of the administration’s myRA plans.
“This would require someone whose company doesn’t have any retirement plan to go to their employer and say she wants to do this, and then the employer would have to say ‘OK’ and put it in place,” says Brian Graff, executive director and chief executive officer of the American Society of Pension Professionals & Actuaries. “The utilization is really going to be very low."
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