Low interest rates impact retirement readiness, EBRI finds

A new study by the Employee Benefit Research Institute (EBRI) has found that today’s historically low interest rate environment severely impacts the retirement readiness of most employees.

Using its proprietary Retirement Security Projection Model (RSPM), the EBRI found that more than a quarter of Baby Boomers and Gen Xers who would have had adequate retirement income under historical average return assumptions are simulated to end up running short of money in retirement if today’s historically low interest rates are assumed to be a permanent condition, if retirement income/wealth is assumed to cover 100% of simulated retirement expense.

“There appears to be a very limited impact of a low-yield-rate environment on retirement income adequacy for those in the lowest pre-retirement income quartile, given the relatively small level of defined contribution and IRA assets and the relatively large contribution of Social Security benefits for this group,” said Jack VanDerhei, EBRI research director and author of the study. “However, there is a very significant impact for the top three income quartiles.”

The impact is lessened if the current low rates are temporary, the EBRI found. For example, when retirement readiness is based on the assumption that retirement income/wealth must cover 100% of expenses, 36% of Gen Xers with no future years of defined contribution eligibility would be predicted to have adequate retirement income if the zero-real-bond-return assumption is expected to last only for the first five years after retirement, compared with 35% if that environment persists for a decade. In contrast, 33% of this group would be predicted to have sufficient money in retirement if the zero-real-bond-return scenario is assumed to be permanent.

The impact is magnified by years of future eligibility for participation in a defined contribution plan, according to the study. For example, moving from the historical-return assumption to a zero-real-interest-rate assumption results in an 11 percentage-point decrease in simulated retirement readiness for Gen Xers who have one to nine years of future eligibility, but that gap widens to a 15 percentage point decrease in retirement readiness for those with 10 or more years of future eligibility. For the younger Gen X generation, the decline in retirement adequacy would range from 4 percentage points under a five-year, low-yield-rate environment, to 7 percentage points if rates remain depressed for 10 years, and 11 percentage points if those low rates are permanent, assuming they have one to nine years of remaining eligibility in a defined contribution retirement plan (such as a 401(k) plan).

Source: EBRI press release PR 1031, June 25, 2013.

For more information on this and related topics, consult the CCH Pension Plan Guide, CCH Employee Benefits Management, and Spencer’s Benefits Reports.

Visit our News Library to read more news stories.