Daily Gains Letter

States Are Struggling to Keep up with Pension Funds; What Should You Do?

By for Daily Gains Letter |

DL_Mohammad_8Simply stated, pension is the money an individual might live on during retirement years. Employees put a small portion of their income into a pension fund to which their employers then contribute, expecting it to grow over time. The hope is that once a person retires, he or she will have enough funds to generate income for life after retirement.

Unfortunately, due to the dismal state of the U.S. economy, pensions for Americans have come under scrutiny. Pension funds are running dry and have significant obligations that need to be paid—flashing red signals for those completely relying on a pension.

The truth of the matter is that the pension funds are emptier than ever before. According to Milliman Inc., one of the world’s largest actuarial firms, there are unfunded liabilities of $1.2 trillion in the 100-largest pension funds in the U.S. economy—that’s $300 billion higher than previously estimated. (Source: “Exclusive: Study shows $1.2 trillion gap for public pensions,” Reuters, October 15, 2012. last accessed December 24, 2012.)

If that wasn’t enough, according to a study done by investment research firm Morningstar, Inc., 21 states in the U.S. economy have pension systems that are in poor financial condition or that are not fiscally sound. Among the states, Illinois, Kentucky, and Connecticut are the lowest-funded states—at 43.4%, 50.5%, and 53.4%, respectively. (Source: “The State of State Pension Plans: A Deep Dive Into Shortfalls and Surpluses,” Morningstar, November 26, 2012, last accessed December 24, 2012.) As per Morningstar’s standards, a pension system must have a funded ratio of 70.0% or more in the U.S. economy to be considered financially sound, meaning it should have at least $0.70 for every dollar of liabilities.

Other states, such as Arizona, are struggling to get their pension systems in order, as well. In 2010, the State of Arizona was short the $12.0 billion it needed to pay for its obligation. Fast-forwarding to 2011, the gap had grown, and Arizona’s pension system needed $13.0 billion to cover its $48.0 billion pension obligation. (Source: “Report: Arizona’s unfunded public pension liability carries risk,” Arizona Capitol Times, December 7, 2012, last accessed December 24, 2012.)

Since 2009, 45 states have cut back on the health benefits of their police personnel, teachers, firefighters, and other public workers. (Source: “Pension Crisis Looms Despite Cuts,” Wall Street Journal, September 21, 2012.)

So, what does it actually mean for those who are starting to plan for their golden years? If all of this continues, it won’t be too long until pension funds actually run out of funds that need to be given out to retirees.

As we are currently in a low-yield environment, pension funds are struggling to get the rate of return that will keep them afloat. The average pension fund in America is still projecting average annual returns of seven to eight percent on their investment portfolio (Source: Williams Walsh, M., “Public Pensions Faulted for Bets on Rosy Returns,” The New York Times, May 27, 2012.) They’re unlikely to attain these figures. To top it off, the Federal Reserve is also planning to keep interest rates near zero until 2015. So, if there was any hope for pension funds to perform well, it’s shattered.

Retirement years should be a time that a person looks forward to, not dreads. Since the turmoil in the U.S. economy, the pension system has taken a hit, and it will take a long time for the wounds to heal.

Relying completely on a pension might create troubles ahead in your retirement life. A person planning for their retirement should also consider different avenues to save—individual retirement accounts (IRAs) and 401(K)s are just two to look at.

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