Defined contribution plans have been on the rise for decades, while the converse is true for defined benefit plans. That has many consequences, and a recent paper points out that another one of them is the way decumulation takes place.
In “Can the Drawdown Patterns of Earlier Cohorts Help Predict Boomers’ Behavior?,” Robert Siliciano and Gal Wettstein, respectively a research economist and a senior research economist with the Center for Retirement Research at Boston College, examine how the behavior of previous generations—served by DB plans—compares with that of current generations for whom DC plans are more common. They use data from the National Institute on Aging’s Health and Retirement Study in looking at historical patterns regarding how fast retirement funds are drawn down.
In the past, Siliciano and Wettstein write, workers were more likely to leave the workforce with a DB plan financing their retirement—and they showed different patterns in drawing on those funds than more current retirees. The quick answer is that the assets of retirees participating in a DB plan fell less by age 70 than those of retirees who are not covered by a DB plan. “Past generations drew down their wealth slowly in retirement,” they write, adding that “this pattern may not hold” with the Baby Boomers, whose retirement savings are likely to be held and managed differently.
The way that retirement is financed has shown a “massive shift,” say Siliciano and Wettstein, citing data showing that at least 60% of households of those born in the 1920s and early 1930s had a DB plan, while only 10% or fewer of households whose members were born in the early 1960s did.
And the speed with which money is spent in retirement has accelerated, they say—to such a degree that at the current decumulation rate, in the populations studied assets would be gone by age 85, around life expectancy. And that places retirees at risk of having no ability to handle unexpected expenses, as well as pose difficulty for those living longer than that.
There are some additional factors present today that were not present for earlier generations, Siliciano and Wettstein point out—factors relevant to retirement savings and drawing down those funds.
Required Minimum Distributions. With DC plans, there are RMD requirements to which those covered by DB plans were not beholden. That can affect drawdowns, they observe, noting that overall, 55% of households with savings available when they retire, and at age 75, are constrained by the RMD at least once.
Annuitized Wealth. Siliciano and Wettstein observe that there is “a positive and statistically significant relationship” between the amount of a retiree’s money that is annuitized and how quickly money is drawn out of a retirement account, and that the higher the amount of annuitized wealth, the slower the decumulation is.
The change in drawdown patterns has an implication beyond simple dollars and cents, suggest Siliciano and Wettstein say. The results also suggest that just as spending has changed over time, estimates of retiree spending may also change. And that could make data less useful—Siliciano and Wettstein write that relying on the speed with which previous generations drew down their retirement savings “could significantly underestimate” that of current retirees.
And an additional factor, they point out is longevity. DB plans, they argue, protect against longevity risk; however, due to less liquidity they do not readily provide funds that may be necessary if a sudden health issue arises. DC plans offer more liquidity; however, spending patterns among those with DC patterns are not the same as those of previous generations that spent less readily.