When the baby boomers entered the workforce, retirement income was to come from three sources, often referred to as the three-legged stool: Social Security, a company pension plan and private savings.

Two of these were in the form of annuities, typically monthly payments. The third, private savings, was supposed to supplement the others.

Gone is that model. The woes of Social Security are widely publicized and, while this benefit will not disappear in the foreseeable future, benefits are being reduced and further curtailment will be necessary. The traditional defined benefit pension plan is quickly becoming extinct, as many companies terminate such plans or convert them to cash balance plans, citing costs and regulatory complexities. Many companies only offer 401(k) plans. Contribution rates to these, according to a number of surveys, is low, particularly among younger employees. Private savings, as well, are at an all-time low.

Americans are now entering retirement with a sizeable portion of their retirement savings in 401(k)/IRA accounts. Retirement specialists are trying to devise different mechanisms to ensure that a reasonable retirement benefit is available and protected, as the trend is likely to continue.

The owner of an individual account balance plan -- 401(k), IRA or private savings -- bears the investment risk. What is available for withdrawal in the future depends on the success of the investments. One concern is that most individuals, even when provided a variety of investment vehicles, do a substandard job of investment selection.

At retirement, the investment concern is combined with another component -- withdrawals. Many manage this withdrawal process poorly, invariably taking out too much or succumbing to unscheduled withdrawals because of ready access to the account.

If the market earns an average of 10 percent, one cannot take out that percentage amount each year, as the rate is not earned uniformly through the investment period. This is the flaw in many retirement calculators. When market returns are low, withdrawals have to be reduced in order to maintain a critical investment mass. Another worry is that the retiree may take unwarranted risks to "catch up" by investing in unsuitable investments, or become ensnared in scams that promise high rewards.

Steps are being taken to protect and enhance retirement income during the accumulation stage and subsequently.

1. Plan Expenses: Plan expenses diminish returns. If an investment earns 8 percent and plan expenses are 1 percent, the participant receives 7 percent. If expenses are 3 to 5 percent, the return is significantly lower. When the markets "correct," for example by producing a negative 5 percent return, then the higher the fees, the steeper the decline. In a 30-year savings period, a retiree would have 20 percent less if a fee of 200 basis points is charged versus 80 basis points. At 300 to 500 basis points, this is deemed "nest egg robbery." Many plans may be paying larger fees than stated, as not all of the components are disclosed to either the plan sponsor or the participants. Congress is looking into this.

2. Automatic Enrollments: Some plans have provisions that automatically contribute a percentage of pay from a participant's salary, unless that person affirmatively opts out. The goal is to increase participation and to get non-contributors to save.

3. Roth 401(k)s Distributions from traditional plans are taxed when withdrawn. After a specified period, distributions from Roths are not taxed. This feature, now being incorporated in many 401(k) plans, will be especially useful to future retirees as the withdrawals will not have a "tax bill" attached, unlike traditional vehicles.

4. Lifestyle Funds: Research is showing that participants have made poor investment choices and asset allocation decisions. To help, plan sponsors and mutual fund companies are adding "lifestyle funds" to the selection. Tagged with a projected retirement date, for example, "Lifestyle Fund 2030," the asset mix is tailored to an individual who will retire in about 20 years. The funds incorporate a variety of stocks -- large cap, small cap, international, value and growth styles, bonds and other investments. The asset allocation generally becomes more conservative as the target date approaches. These funds also are available to IRA accounts.

5. Super 401(k): This is a new vehicle that combines features from a traditional pension plan and 401(k) plan and basically takes the investment decisions away from an employee. Devon Energy is offering this new plan to its employees as a substitute for its current traditional plans. The contribution levels are very generous. More details can be found in several articles online.

Azanda L. Donaldson, is a vice president at Karpus Investment Management, a local independent, registered investment advisor managing assets for individuals, corporations, non-profits and trustees. Offices are located at 183 Sully's Trail, Pittsford, N.Y. 14534; phone (585) 586-4680.

Source: Daily Record (Rochester, NY). Provided by ProQuest Information and Learning. Powered by Yellowbrix.

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