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United States41649 Posts
So I've been considering making some kind of personal finance blog or record or whatever for a while now because I've managed to divert some of the energy I put into learning games and optimizing play within the rules into my own finances. I'm currently playing life on low to medium difficulty, I'm male, white and in the United States with a college education but I only got my green card two months ago and am pretty much at square one careerwise. So I don't make shit, I'm working poor, but I have absolutely no ongoing handicaps, no kids, no health issues, no barriers to advancement. Possibly a comparable situation to much of my readership. Who knows.
I've got a rough plan for the first half dozen entries so each entry will probably focus on one or two specific things rather than the whole picture. Today though I want to talk about how I spent three hours or so finding (this was most of the work), reading and researching the rulebook for how the retirement at my new job works.
So, a week ago I got a new job. This is an awesome thing because generally if you're keeping on top of your resume, actively learning new skills with each job and improving your experience getting a new job is pretty much the best way to increase your salary. Jobs for life have somewhat been relegated in the modern economy for those who have to settle (or those who found a super valuable niche), and honestly if I were in one of them I'd probably be a little threatened by machines. For the rest of us if we want more than a basic cost of living increase annually we need to move around.
+ Show Spoiler [ my last job] +My previous job was fantastic in many ways and I am grateful for the opportunity they gave me by hiring me in the US with no US experience, but there was absolutely no future there for me. I knew that, they knew that. I made my case, explained how much value I'd added to the department (billing and profits up 80% month for month on last year, starting the month I got there) and asked for the fancy title and money. They explained their hands were tied and they had no position to match my skills and salary expectations so I was free to look for a new position while still working there with their blessing on the understanding that I would keep the place running and train the new guy. I continued to do an awesome job for another 6 weeks, they gave me great references that really helped me get my new job and I left very detailed notes as well as writing a lot of tools from scratch that basically automated the hard parts of my job. And tomorrow I'm doing another training session.
New job is in the public sector and it comes with a shitton of really sweet benefits. Among those is an old fashioned defined pension plan which the HR people at my orientation were really, really keen on. I have mandatory contributions of around 11% of my gross and the employer puts 13% of my gross into a fund which, after 30 years of service, or me reaching 67, will give me 70% of the average of my 5 highest earning years, cost of living adjusted, for life. Pretty fucking nice. The only problem is that I have absolutely zero desire to work for 30 years and I have no clue why anyone who doesn't work at an ice cream factory or has Stockholm Syndrome would. 30 fucking years? Fuck that.
So I was the dumb fuck who, when they asked any questions, wanted to know how to get out of it. They looked at me like I was an idiot and explained that if you quit early you can theoretically withdraw your contributions (yours only, employer contributions are sacrificed) with a penalty but you wouldn't really want to do that because the pension is great and social security probably won't be around when I retire (which is dumb for two reasons, firstly it absolutely will, maybe it'll be tweaked but it'll still be there and secondly I'm probably going to retire before she does). Unfortunately she didn't really have good answers for me so I spent my time being mad as hell that I was having 11% of my income frozen and getting no matches or anything, unless I signed up for the long haul.
And then, when I got home, I looked up the plan. I read through every page of it and I found a reference to an alternative within it that either the HR people didn't know about or didn't care about. In exchange for sacrificing 3% of the employer contribution I can opt out of the defined plan and into what is, effectively, a 401k plan with a mandatory contribution of 11% of my gross with a 100% match on that 11%. And that is fucking awesome. With self directed allocations matching my high tolerance for volatility (I'm young with no big planned expenses) I'm looking at another 11% of my gross that, rather than being lost into a plan that I have no desire or need for, goes into an account that I can actually use. An account that I can throw in low cost index funds and reap far, far greater rewards than the conservative defined plan. And an account that I can cash out of using a tIRA conversion into a ROTH ladder (which I'll probably talk further about in a few posts time).
So I got pretty excited about this and started making spreadsheets. Spreadsheets are fucking awesome. With a few basic assumptions and assuming a 15 year (worst case scenario) getting the fuck out of work horizon I was able to generate some numbers.
The pension I'd have available to me in 15 years would be worth around $19k a year, but I wouldn't be able to claim a penny of it until I hit 67 which would be in 26 years time. A retirement of $19k a year that hits 26 years after I plan on getting out isn't worth that much to me.
So, what is the opportunity cost on this. Well, my contributions alone across those 15 years would be near $70k. $70k doesn't sound like a lot to spend for a $19k pension but you have to remember there if today is day one then there are 41 years for that shit to compound in. When I run the numbers on the alternative option, assuming an average 7% return (a pretty safe bet on US largecaps if you take a pretty long view), my contributions work out to be a rather sexier $678k. Compound interest and a long time horizon is pretty fucking broken. And remember that's just my contributions.
So, now we know about the employer contribution to the alternative option we can run the numbers for a third time taking that into account. Across the same 15 years my contributions and those of my employer could be expected to compound into a little under a quarter of a million dollars. If I left them for the full 41 years (all examples assume I quit in 15 years and all contributions stop) then we'd be looking at nearly $1.4m by the time I'm 67, assuming no withdrawals.
And suddenly the pension plan, with it's guarantee of $19k a year when I'm 67, doesn't look quite as good. Certainly not as good as $1.4m.
So, what is the moral of this story. Well, I was pissed off that the system didn't work the way I wanted it to and I dedicated a few hours and a fair bit of effort to trying to break it. And it turned out that I wasn't the first person to want what I wanted and there was shit in place, if I knew where to look. Some spreadsheets and self high fives and here we are. My income in real, usable terms has increased by a solid 11% (those contributions can be used before retirement, not immediately but there are ways), the very nice public sector perks which were totally inapplicable to my situation now fit my needs and while I only stand to profit thousands from it this year we're talking about $120k extra monies for the bit of reading I did assuming a 15 year end date.
Oh, and even if I had planned to work for 30 years and claimed an $80k inflation adjusted pension for life from it that still doesn't compare to the dumb amount of money the alternative would have after 30 years of contributions of 22% of my annual gross with 7% compounding interest.
TLDR: Rage-read pension plan handbooks, did some Excel nerding, big financial gains.
  
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United States24497 Posts
It's great that there was a solution once you took a closer look, but my first thought after reading the thread title is don't count your chickens before they hatch!
I am vested in one retirement system (with only 5 years) and recently entered into a new one which doesn't pay anything unless I'm in for 20+ years, so...
Here's to long term financial planning 
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United States41649 Posts
On July 03 2015 13:09 micronesia wrote:It's great that there was a solution once you took a closer look, but my first thought after reading the thread title is don't count your chickens before they hatch! I am vested in one retirement system (with only 5 years) and recently entered into a new one which doesn't pay anything unless I'm in for 20+ years, so... Here's to long term financial planning
It vests immediately, both mine and employer contributions, but withdrawals are subject to all the normal limitations on a 401k. They can be bypassed. Yours sounds a lot like the one I'm opting out of. Hell, it's possible you could do the same with yours. It's not the employer that makes these awesome defined pensions awesome, it's just compounding and a very long investment horizon, the same rules applied with privately managed funds would do the same.
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United States24497 Posts
Unfortunately no, my current one is "serve for 20 years, you can retire, otherwise, separate and get nothing" :p I have a tiny 403b actually I completely forgot about, and some personally managed crap.
By the way I used your signature quote recently on casual conversation at work.
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United States41649 Posts
Guess you're in for 20 then, although I've heard great things about military pensions. And many public sector plans will let you count some of those years of service for theirs too, although as far as I can tell most military who do their 20 shouldn't need to ever work again if they make good choices.
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United States24497 Posts
Only problem with military pensions is that you are only getting a percentage of your basic pay, rather than your total take-home pay from when you were working. Also, you need to get promoted in order to hit 20+ years, and promotions are far from guaranteed :p
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New job is in the public sector and it comes with a shitton of really sweet benefits. Among those is an old fashioned defined pension plan which the HR people at my orientation were really, really keen on. I have mandatory contributions of around 11% of my gross and the employer puts 13% of my gross into a fund which, after 30 years of service, or me reaching 67, will give me 70% of the average of my 5 highest earning years, cost of living adjusted, for life. Pretty fucking nice. The only problem is that I have absolutely zero desire to work for 30 years and I have no clue why anyone who doesn't work at an ice cream factory or has Stockholm Syndrome would. 30 fucking years? Fuck that.
So I was the dumb fuck who, when they asked any questions, wanted to know how to get out of it. They looked at me like I was an idiot and explained that if you quit early you can theoretically withdraw your contributions (yours only, employer contributions are sacrificed) with a penalty but you wouldn't really want to do that because the pension is great and social security probably won't be around when I retire (which is dumb for two reasons, firstly it absolutely will, maybe it'll be tweaked but it'll still be there and secondly I'm probably going to retire before she does). Unfortunately she didn't really have good answers for me so I spent my time being mad as hell that I was having 11% of my income frozen and getting no matches or anything, unless I signed up for the long haul.
First, awesome and gratz!
Maybe I'm just too cynical, but I would imagine why they push people into the other plan is they are far less likely to have to pay off on their match. Not to mention if you die before retirement age they save money too. Whether the particular HR people you dealt with are aware, or it's something they were never told I don't know, but that seems like the most likely reason to me from an organizational perspective.
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United States41649 Posts
On July 03 2015 22:05 GreenHorizons wrote:Show nested quote +New job is in the public sector and it comes with a shitton of really sweet benefits. Among those is an old fashioned defined pension plan which the HR people at my orientation were really, really keen on. I have mandatory contributions of around 11% of my gross and the employer puts 13% of my gross into a fund which, after 30 years of service, or me reaching 67, will give me 70% of the average of my 5 highest earning years, cost of living adjusted, for life. Pretty fucking nice. The only problem is that I have absolutely zero desire to work for 30 years and I have no clue why anyone who doesn't work at an ice cream factory or has Stockholm Syndrome would. 30 fucking years? Fuck that.
So I was the dumb fuck who, when they asked any questions, wanted to know how to get out of it. They looked at me like I was an idiot and explained that if you quit early you can theoretically withdraw your contributions (yours only, employer contributions are sacrificed) with a penalty but you wouldn't really want to do that because the pension is great and social security probably won't be around when I retire (which is dumb for two reasons, firstly it absolutely will, maybe it'll be tweaked but it'll still be there and secondly I'm probably going to retire before she does). Unfortunately she didn't really have good answers for me so I spent my time being mad as hell that I was having 11% of my income frozen and getting no matches or anything, unless I signed up for the long haul. First, awesome and gratz! Maybe I'm just too cynical, but I would imagine why they push people into the other plan is they are far less likely to have to pay off on their match. Not to mention if you die before retirement age they save money too. Whether the particular HR people you dealt with are aware, or it's something they were never told I don't know, but that seems like the most likely reason to me from an organizational perspective.
I suspect it's because they genuinely don't believe employees are capable of making their own plans outside of a defined pension. That if they gave us our 11% back we'd go out and buy magic beans as a long term investment. With that in mind this pension, where they force us into it and then it turns out that 11%+14% compounding for 30 years is a lot of money, seems pretty magical. There are premature death payout options and spousal benefits, although I skimmed through those.
It was more "why wouldn't you want something this magical that creates free money for you forever?" where my answer basically consisted of "because I know how the magic trick works, it's compound interest and time, and I'm a better magician than you are".
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On July 03 2015 22:14 KwarK wrote:Show nested quote +On July 03 2015 22:05 GreenHorizons wrote:New job is in the public sector and it comes with a shitton of really sweet benefits. Among those is an old fashioned defined pension plan which the HR people at my orientation were really, really keen on. I have mandatory contributions of around 11% of my gross and the employer puts 13% of my gross into a fund which, after 30 years of service, or me reaching 67, will give me 70% of the average of my 5 highest earning years, cost of living adjusted, for life. Pretty fucking nice. The only problem is that I have absolutely zero desire to work for 30 years and I have no clue why anyone who doesn't work at an ice cream factory or has Stockholm Syndrome would. 30 fucking years? Fuck that.
So I was the dumb fuck who, when they asked any questions, wanted to know how to get out of it. They looked at me like I was an idiot and explained that if you quit early you can theoretically withdraw your contributions (yours only, employer contributions are sacrificed) with a penalty but you wouldn't really want to do that because the pension is great and social security probably won't be around when I retire (which is dumb for two reasons, firstly it absolutely will, maybe it'll be tweaked but it'll still be there and secondly I'm probably going to retire before she does). Unfortunately she didn't really have good answers for me so I spent my time being mad as hell that I was having 11% of my income frozen and getting no matches or anything, unless I signed up for the long haul. First, awesome and gratz! Maybe I'm just too cynical, but I would imagine why they push people into the other plan is they are far less likely to have to pay off on their match. Not to mention if you die before retirement age they save money too. Whether the particular HR people you dealt with are aware, or it's something they were never told I don't know, but that seems like the most likely reason to me from an organizational perspective. I suspect it's because they genuinely don't believe employees are capable of making their own plans outside of a defined pension. That if they gave us our 11% back we'd go out and buy magic beans as a long term investment. With that in mind this pension, where they force us into it and then it turns out that 11%+14% compounding for 30 years is a lot of money, seems pretty magical. There are premature death payout options and spousal benefits, although I skimmed through those. It was more "why wouldn't you want something this magical that creates free money for you forever?" where my answer basically consisted of "because I know how the magic trick works, it's compound interest and time, and I'm a better magician than you are".
Does it make sense for me to think then, that it would be in everyone's interest for us as a society to at least try to teach everyone the magic trick, rather than just assume we are all too incompetent to do it ourselves?
EDIT: Put another way, who would be worse off if everyone at your place of employment (or one with a similar system) did what you are doing?
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United States41649 Posts
Their way becomes better as years of work increase but on a 30 stint, with realistic returns on an alternative portfolio, nobody. But teaching a layman how to make a portfolio matching their needs and tolerance is riskier than doing it for them. If I was planning to treat them as a job for life then I'd consider their plan but a job for life has other significant penalties in terms of general compensation. The alternative plan doesn't lock you in which leaves you free to increase your compensation.
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On July 03 2015 22:14 KwarK wrote:+ Show Spoiler +On July 03 2015 22:05 GreenHorizons wrote:Show nested quote +New job is in the public sector and it comes with a shitton of really sweet benefits. Among those is an old fashioned defined pension plan which the HR people at my orientation were really, really keen on. I have mandatory contributions of around 11% of my gross and the employer puts 13% of my gross into a fund which, after 30 years of service, or me reaching 67, will give me 70% of the average of my 5 highest earning years, cost of living adjusted, for life. Pretty fucking nice. The only problem is that I have absolutely zero desire to work for 30 years and I have no clue why anyone who doesn't work at an ice cream factory or has Stockholm Syndrome would. 30 fucking years? Fuck that.
So I was the dumb fuck who, when they asked any questions, wanted to know how to get out of it. They looked at me like I was an idiot and explained that if you quit early you can theoretically withdraw your contributions (yours only, employer contributions are sacrificed) with a penalty but you wouldn't really want to do that because the pension is great and social security probably won't be around when I retire (which is dumb for two reasons, firstly it absolutely will, maybe it'll be tweaked but it'll still be there and secondly I'm probably going to retire before she does). Unfortunately she didn't really have good answers for me so I spent my time being mad as hell that I was having 11% of my income frozen and getting no matches or anything, unless I signed up for the long haul. First, awesome and gratz! Maybe I'm just too cynical, but I would imagine why they push people into the other plan is they are far less likely to have to pay off on their match. Not to mention if you die before retirement age they save money too. Whether the particular HR people you dealt with are aware, or it's something they were never told I don't know, but that seems like the most likely reason to me from an organizational perspective. I suspect it's because they genuinely don't believe employees are capable of making their own plans outside of a defined pension. That if they gave us our 11% back we'd go out and buy magic beans as a long term investment. With that in mind this pension, where they force us into it and then it turns out that 11%+14% compounding for 30 years is a lot of money, seems pretty magical. There are premature death payout options and spousal benefits, although I skimmed through those. It was more "why wouldn't you want something this magical that creates free money for you forever?" where my answer basically consisted of "because I know how the magic trick works, it's compound interest and time, and I'm a better magician than you are".
... you are reading far too into the minds and hearts of public sector (by which I mean, government) HR departments and pension planning.
They don't know because they are apathetic to having to follow the constantly flowing tides of changing things, and the people (like yourself) that bother with the low probability paths will know what they should do. They will, of course, resent you making them do something that is different and outside of their normal path. I recommend bringing donuts or cake to grease the process along.
The low-probability path is a result of a very few people in the process making decisions combining the "easiest for the state" with the "but I want a better option". They create a plan that makes everything easy on the organization, while keeping in the fine print a better option for them. Public sector decision makers are more mobile, and are less likely to hold to the same organization for 30 years.
... I say that in all hope that I can someday achieve "decision maker" status and get the hell out of the agency I've been in for 13 years now. But you do get some decent benefits working in the public sector, and job security is usually at least a notch or two above any private sector position.
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I'd be careful with planning a fortune using a service that can change it's terms very quickly depending on creativity of idots in power. Unlike in EVE, in real life government can and will look into any source of funding to cover its debt and that includes pensions. One day you have a nice pension account, the next day you are informed that the government in its infinite wisdom decided to pool all private (voluntary) pensions by taking 50% from all accounts into the obligatory public system in order to fix the deficit (it didn't help, gaping hole in the public system is just as big and mysteriously a portion of the funds never made it to the public system D: ). Then again in US you might avoid such treatment, unless shit really hits the fan, of course.
Just remember that in real life you cannot quite stack pancakes on your hat as high as in Submarine Excel Spacesheets Online 
+ Show Spoiler +
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In the US, you can't avoid it either. They just make sure to time such moves when something else is distracting people.
There are some people that want to take my pension and move it from High-3 to High-5 calculations. And the original pension system is closed, the new one requires employee contributions, but they keep talking about increasing those contributions as well.
I'm not banking on the pension, though, as the "not really a 401k but it is remarkably similar" program offers far better return as long as you take care to get your money out of the government bond fund.
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To be honest, I think you're too easily discarding the guaranteed return of the pension. Although, for you who plans to leave, it certainly might make sense to use the 401k type option. For most people, it's the guaranteed payment that is valuable. It's easy to say that investing in a wiser way will yield greater returns, but that's not always true. Most pensions assume around an 8% annual return! which in many markets is pretty unrealistic. So the benefit becomes the guaranteed payments that you get when you retire, no matter how long you live or how good/bad the markets been for those years.
In general, I agree with you though. I'm not a big fan of defined benefit systems. There's too much chance for it not to work out. Either though the company/government under funding, or corporate/municipal bankruptcy, etc. and at that point it's too late to make alternate plans. So good on you for finding an alternative that suits your situation.
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United States41649 Posts
On July 04 2015 21:15 Cauld wrote:
To be honest, I think you're too easily discarding the guaranteed return of the pension. Although, for you who plans to leave, it certainly might make sense to use the 401k type option. For most people, it's the guaranteed payment that is valuable. It's easy to say that investing in a wiser way will yield greater returns, but that's not always true. Most pensions assume around an 8% annual return! which in many markets is pretty unrealistic. So the benefit becomes the guaranteed payments that you get when you retire, no matter how long you live or how good/bad the markets been for those years.
In general, I agree with you though. I'm not a big fan of defined benefit systems. There's too much chance for it not to work out. Either though the company/government under funding, or corporate/municipal bankruptcy, etc. and at that point it's too late to make alternate plans. So good on you for finding an alternative that suits your situation.
The pension becomes more valuable the longer you work there. Let's assume I work 41 years, all the way up to 67. By that point the pension will have received around $943k in employer and employee contributions (with all the same assumptions I used for my sheet). The contributions over those 41 years get you a pretty incredible pension of $185k. And that pension is inflation/cost of living adjusted. So I've lost $943k but I have a $185k annual payment which is pretty sweet.
Now let's take the same contributions and apply a 7% annually compounding increase to them to represent the alternative. After 41 years that $943k is now $3.4m which is generating some pretty impressive, pretty stable returns. We're retired at this point so we want to start taking money out to live on. However unlike the pension the 401k style account doesn't automatically adjust for cost of living so even if we continue to assume 7% growth on average we can't just take out 7% unless we want inflation to fuck us. 4% safe withdrawal rate is considered pretty standard so let's go with that. At $3.4m we can take out $136k a year without diminishing the inflation adjusted principal and allowing that $136k to go up with the cost of living.
So, their retirement plan offers $185k a year, adjusted upwards, forever, with nothing in the bank.
The alternative plan could be expected to offer just $136k a year, adjusted upwards, forever, with $3.4m in the bank.
So, as we already worked out earlier, the defined benefit plan does improve as years of employment increase. It really sucks on my planned timeline, it's still worse on a 30 stretch but as we approach silly numbers like 41 years of continual service it pulls ahead in payout terms. However, I'm not seeing the $49k a year difference between the defined benefit plan and the alternative safe withdrawal rate being worth it, in the alternative you have $3.4m on top of your regular returns. That's a family trust, right there. That's one hell of an inheritance. And if you wanted to increase your withdrawal rate to 5%, which over a very long term should still be stable, although some years the principal may be threatened, it becomes a wash anyway.
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On July 05 2015 00:49 KwarK wrote:Show nested quote +On July 04 2015 21:15 Cauld wrote:
To be honest, I think you're too easily discarding the guaranteed return of the pension. Although, for you who plans to leave, it certainly might make sense to use the 401k type option. For most people, it's the guaranteed payment that is valuable. It's easy to say that investing in a wiser way will yield greater returns, but that's not always true. Most pensions assume around an 8% annual return! which in many markets is pretty unrealistic. So the benefit becomes the guaranteed payments that you get when you retire, no matter how long you live or how good/bad the markets been for those years.
In general, I agree with you though. I'm not a big fan of defined benefit systems. There's too much chance for it not to work out. Either though the company/government under funding, or corporate/municipal bankruptcy, etc. and at that point it's too late to make alternate plans. So good on you for finding an alternative that suits your situation. The pension becomes more valuable the longer you work there. Let's assume I work 41 years, all the way up to 67. By that point the pension will have received around $943k in employer and employee contributions (with all the same assumptions I used for my sheet). The contributions over those 41 years get you a pretty incredible pension of $185k. And that pension is inflation/cost of living adjusted. So I've lost $943k but I have a $185k annual payment which is pretty sweet. Now let's take the same contributions and apply a 7% annually compounding increase to them to represent the alternative. After 41 years that $943k is now $3.4m which is generating some pretty impressive, pretty stable returns. We're retired at this point so we want to start taking money out to live on. However unlike the pension the 401k style account doesn't automatically adjust for cost of living so even if we continue to assume 7% growth on average we can't just take out 7% unless we want inflation to fuck us. 4% safe withdrawal rate is considered pretty standard so let's go with that. At $3.4m we can take out $136k a year without diminishing the inflation adjusted principal and allowing that $136k to go up with the cost of living. So, their retirement plan offers $185k a year, adjusted upwards, forever, with nothing in the bank. The alternative plan could be expected to offer just $136k a year, adjusted upwards, forever, with $3.4m in the bank. So, as we already worked out earlier, the defined benefit plan does improve as years of employment increase. It really sucks on my planned timeline, it's still worse on a 30 stretch but as we approach silly numbers like 41 years of continual service it pulls ahead in payout terms. However, I'm not seeing the $49k a year difference between the defined benefit plan and the alternative safe withdrawal rate being worth it, in the alternative you have $3.4m on top of your regular returns. That's a family trust, right there. That's one hell of an inheritance. And if you wanted to increase your withdrawal rate to 5%, which over a very long term should still be stable, although some years the principal may be threatened, it becomes a wash anyway.
I see what you're saying, and I'm not disagreeing, but I still think you're largely ignoring the downside risk. The US has a recession roughly every 10 years. Not every one is a financial crisis like the last one, but there's still a pretty good chance of a negative return in one of those years. How does your 4% withdrawal work out then. Say your principle decreases by 10% and you take out 4%. Ignoring all the COL and inflation adjustments your annual "safe" withdraw has now decreases, hasn't it? I don't have your spreadsheet or anything and it's entirely possible I've misunderstood.
Also how does the math work out if you only work 30 years, and retire at 56? You may well live another 30 years from that point. You maybe the type of person who loves working, so you'd love working those extra 11 years and it doesn't matter, but personally I'd like to retire as soon as I can, having a guarantee income with the COL and inflation adjustments sounds pretty sweet.
Realistically I don't think parents should be expected to leave much of an inheritance, they should enjoy the money they earned, or watch their kids enjoy it while they're alive :-) I do agree that 3.4 million is a pretty sweet amount of cash to have at your disposal. I mean, that's a ton of flexibility for you or your family. That's the magic of saving 20%+ of your income for 30 years. Unfortunately, most people just choose whatever election their company defaults to. I'm definitely looking forward to the other blogs in this series
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United States41649 Posts
On July 05 2015 11:01 Cauld wrote:Show nested quote +On July 05 2015 00:49 KwarK wrote:On July 04 2015 21:15 Cauld wrote:
To be honest, I think you're too easily discarding the guaranteed return of the pension. Although, for you who plans to leave, it certainly might make sense to use the 401k type option. For most people, it's the guaranteed payment that is valuable. It's easy to say that investing in a wiser way will yield greater returns, but that's not always true. Most pensions assume around an 8% annual return! which in many markets is pretty unrealistic. So the benefit becomes the guaranteed payments that you get when you retire, no matter how long you live or how good/bad the markets been for those years.
In general, I agree with you though. I'm not a big fan of defined benefit systems. There's too much chance for it not to work out. Either though the company/government under funding, or corporate/municipal bankruptcy, etc. and at that point it's too late to make alternate plans. So good on you for finding an alternative that suits your situation. The pension becomes more valuable the longer you work there. Let's assume I work 41 years, all the way up to 67. By that point the pension will have received around $943k in employer and employee contributions (with all the same assumptions I used for my sheet). The contributions over those 41 years get you a pretty incredible pension of $185k. And that pension is inflation/cost of living adjusted. So I've lost $943k but I have a $185k annual payment which is pretty sweet. Now let's take the same contributions and apply a 7% annually compounding increase to them to represent the alternative. After 41 years that $943k is now $3.4m which is generating some pretty impressive, pretty stable returns. We're retired at this point so we want to start taking money out to live on. However unlike the pension the 401k style account doesn't automatically adjust for cost of living so even if we continue to assume 7% growth on average we can't just take out 7% unless we want inflation to fuck us. 4% safe withdrawal rate is considered pretty standard so let's go with that. At $3.4m we can take out $136k a year without diminishing the inflation adjusted principal and allowing that $136k to go up with the cost of living. So, their retirement plan offers $185k a year, adjusted upwards, forever, with nothing in the bank. The alternative plan could be expected to offer just $136k a year, adjusted upwards, forever, with $3.4m in the bank. So, as we already worked out earlier, the defined benefit plan does improve as years of employment increase. It really sucks on my planned timeline, it's still worse on a 30 stretch but as we approach silly numbers like 41 years of continual service it pulls ahead in payout terms. However, I'm not seeing the $49k a year difference between the defined benefit plan and the alternative safe withdrawal rate being worth it, in the alternative you have $3.4m on top of your regular returns. That's a family trust, right there. That's one hell of an inheritance. And if you wanted to increase your withdrawal rate to 5%, which over a very long term should still be stable, although some years the principal may be threatened, it becomes a wash anyway. I see what you're saying, and I'm not disagreeing, but I still think you're largely ignoring the downside risk. The US has a recession roughly every 10 years. Not every one is a financial crisis like the last one, but there's still a pretty good chance of a negative return in one of those years. How does your 4% withdrawal work out then. Say your principle decreases by 10% and you take out 4%. Ignoring all the COL and inflation adjustments your annual "safe" withdraw has now decreases, hasn't it? I don't have your spreadsheet or anything and it's entirely possible I've misunderstood. Also how does the math work out if you only work 30 years, and retire at 56? You may well live another 30 years from that point. You maybe the type of person who loves working, so you'd love working those extra 11 years and it doesn't matter, but personally I'd like to retire as soon as I can, having a guarantee income with the COL and inflation adjustments sounds pretty sweet. Realistically I don't think parents should be expected to leave much of an inheritance, they should enjoy the money they earned, or watch their kids enjoy it while they're alive :-) I do agree that 3.4 million is a pretty sweet amount of cash to have at your disposal. I mean, that's a ton of flexibility for you or your family. That's the magic of saving 20%+ of your income for 30 years. Unfortunately, most people just choose whatever election their company defaults to. I'm definitely looking forward to the other blogs in this series
A safe withdrawal rate is 100% fine with a 2008 style crisis. That's why it's a safe withdrawal rate. There are a shitton of cool simulations you can run with this stuff.
The maths works out hugely, hugely in favour of the 401k style plan over the defined plan as you take years off. So after 30 years you're way, way better off with the 401k plan. But the best part of the 401k plan is that you don't have to wait 30 years. You can retire way earlier than that.
If you're interested in running simulations on different economic conditions with different portfolios etc then you'll want to play around with this.
http://www.cfiresim.com/input.php
7% is the generally accepted passive return for being fully invested in low cost index funds, obviously some years will be 2008 but equally others will be 2013, if you take a long view and the world as we know it doesn't have drastic changes (more drastic than, say, World War II or the end of the gold standard) 7% is pretty solid. And that's after accounting for inflation, the 7% is real terms.
With that in mind the safe withdrawal rate of 4% is pretty safe.
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EPT![[image loading]](http://i.imgur.com/TcbUXkT.png)
