As a child growing up in the 1960s, I remember hearing so many Black families talking about their employee pensions. All they understood was that when they retired, their employer would continue providing paychecks for life. This is what attracted many Black families to the steel mills of Northwest Indiana as well as the US Post Office.
You also didn’t need a college education to figure out how to receive those retirement benefits. Most people, however, are very unaware that most employers hire insurance companies to run their payouts for their defined benefit or pension plans.
About the Defined Benefit Plan (Pension)
A defined benefit plan (pension) means that the company defines how much money the person will receive upon retirement. This is similar to the calculations made by the Social Security Administration. With defined benefit planning, the employee and employer add money and someone else figures out how to create the income payments. As an employee, your decision is really based on “when” you decide to claim your benefit.
So then, in the 1980s, employers began moving away from defined benefit plans (aka pensions) into defined contribution plans such as the 401(k) and its siblings 403(b), 457, and TSP.
In defined contribution plans, how much money you can save annually in tax deferred accounts is actually determined by the United States Congress. In terms of lifetime income, you are left to figure out how much monthly benefit you want to create through your savings, investing and withdrawal strategies.
At retirement, you can either spend it as you want or decide to receive a lifetime income by annuitizing your money. You can do the same on your own, but your contract is one-on-one with the insurance companies rather than being pooled through an employer.
Defined Contribution Strategy
Typically, an employer hires an actuary to forecast what your income will be in the future and manages the payout accordingly. Let’s say that they will give you 60% of the average of your last three years of salary and that average is $100,000.
In that case, they would be targeting $60,000 per year. Most White households have not been exposed to these inner workings, much less Black families, who have traditionally been underexposed to financial planning.
It’s common to hear financial influencers extoll either saving to get the employer match or saving to the max. I don’t hear that tied to how much monthly retirement income that will create. Besides, those who make less money may be fine living on Social Security alone.
How much you need to save depends on a host of factors. Most importantly, it’s really about how much you want to live on. Actuaries don’t worry about that and simplify by targeting a percent replacement of income. You may also find that works well for you too.
Creating Pension -Like Income
My mom is 93 years old and has been receiving paychecks since she was in her 60s. Those checks will continue coming to her until she dies. Side note: Her life expectancy was not 93. She’s now the oldest living person in her family. Who knew?
My mom went to college to become a teacher soon after I started grade school. A popular brand name amongst educators is TIAA. It is an acronym for Teachers Insurance and Annuity Association. I have heard many people extol the TIAA, but also bemoan the word annuity.
TIAA is also a line on the tax return, right next to its cousin, the Pension. People will often reject things that they are unfamiliar with rather than decide to learn more. By the way, the word annuity (and the annuity industry) has been around far longer than words like Amazon, Tesla and Crypto!
If you want to make sure that you do not run out of money, then you will want to purchase a Single Premium Immediate Annuity (SPIA) with some or all of your savings.
Here’s an example of a few companies and the lifetime income amounts that you would get upon investing in them. I used the Cannex database. The monthly amounts are based on a 70-year-old female. She is single life, using 401(k) or IRA money, a $250,000 premium purchased on 2/22/2022, and income starting 3/2/2022:
Company 1 – Monthly Income: $1,289.21
Company 2 – Monthly Income: $1,262.99
Company 3 – Monthly Income: $1,256.06
Company 4 – Monthly Income: $1,237.85
Company 5 – Monthly Income: $1,207.04
Remember the pension, I mentioned above, that my mother gets? That is also considered as taxable income. Just like if it was a 401(k) or IRA.
Back in the 1960s, many Black spouses (usually women) either never worked outside of the home or made that much money, in comparison to their spouses. They relied primarily on their husband’s income. Like my mom, that made receiving pension checks, based on their spouses work record, very important if they outlived their spouse.
The good news is that this feature can be added to a private annuity contract too. This will, however, reduce current income if the payout was only for one life. However, all these are like the choices offered with pension contracts.
It is comforting to know that your retirement needs and expenses can be covered by income sources such as pensions, Social Security and (SPIA) pension-like income. If you saved beyond what is necessary to cover those expenses through an annuity, then you have great options. Some options include leaving money invested in the stock and bond markets, tax on less investment risk, spend it or save it for future generations.
You too can have pension-like income similar to Black families of the Greatest Generation and Baby Boomers. I just know that as long as my mother lives, her pension income will never run out. Maybe you’d like the same benefit? There are many variations of these instruments available to you. Seek out a qualified professional to help you understand and choose the option that’s best for you and your family.