Credit Sesame on retiree finances and why 2022 proved an especially tough year for older Americans.
High inflation and falling financial markets made 2022 a difficult year for household finances. However, conditions were especially hard on some of the most vulnerable Americans. Older Americans have been especially hurt by the economy and financial markets. Part of the problem is that retirees have a smaller margin for error than people in their prime working years. This means that older consumers can lose no time in adapting to today’s financial reality.
A Census Bureau study released late last year showed that even prior to 2022, Americans aged 65 and older were sinking into poverty at a faster rate than younger people. On the whole, older Americans have lower poverty rates than younger ones. That’s because they have had many years to earn and save. However, the Census Bureau found a trend in the opposite direction as the economy started to recover from the pandemic after 2020.
In 2021, the poverty rate among people 65 years and older increased by 1.4%. Meanwhile, poverty remained essentially unchanged (up by 0.1%) for younger adults, and declined for children. Already a step in the wrong direction for seniors, and then 2022 happened.
Retirees have the most to lose from investment setbacks
A bad year for the financial markets hurt investors are all ages. However, it was especially hard on older investors for two reasons:
- People who have spent decades accumulating retirement assets have more money invested.
- Being in or close to retirement puts people in a position where negative cash flow can worsen investment declines.
How bad was 2022 for retiree finances?
The S&P 500 U.S. stock index dropped by 19.44% in 2022. That made it the worst year for U.S. stocks since 2008.
Domestic stocks were not alone in their misery. The S&P Global Broad Market Index suffered a similarly-bad -20.04% price change in 2022.
Long-term investors often keep part of their holdings in bonds to cushion against that kind of volatility. However, last year even high-quality bonds weren’t a lot of help. The S&P U.S. Treasury Bond Index lost 10.98% in 2022.
In short, there was nowhere for investors to hide. However, investors at or near retirement age were most affected. That’s the point at which people are normally approaching their peak amount of investments. As a result, that’s when they have the most to lose.
Negative cash flow makes market declines worse
Another way to think of how age affects the impact of market declines is in terms of cash flow.
Younger investors generally have most of their investing ahead of them. They may put aside money for retirement for decades to come. They not only have relatively little invested early on, but also they can actually benefit from market declines. Down markets give them the chance to make subsequent investments at lower prices.
In contrast, older investors are getting to the point where they will be regularly drawing money out of their retirement savings to live on. They don’t have as much time to recover from market declines, nor do they have years of fresh investments ahead of them that can benefit from buying low.
Instead, if they have to draw money out to live on after a market decline, it could mean locking in losses. They have less money invested when the market bounces back.
Inflation’s high impact on retirees
Besides being more exposed to investment setbacks, older people are also more vulnerable to inflation.
Though Social Security benefits adjust periodically for inflation, 401(k) and other similar retirement savings don’t offer any guaranteed level of benefits. With most retirement plans these days, people simply have to live on the nest egg they’ve built up over the course of their careers.
High inflation effectively shrinks that nest egg. While people who are still working are likely to see their incomes rise over time along with inflation, retirees generally have to stretch a finite amount of resources farther when prices rise.
Financial recovery strategies for older Americans
There are a few strategies older people can consider to help their finances adjust after a period of adversity.
Planning updates
Retirement plans make certain long-term assumptions about conditions. Sometimes, the reality is radically different from those assumptions.
Whether you have been retirement planning for 5 years or for 50, recent times may be a game changer. The assumptions about inflation and investment returns that went into your plan may need to be adjusted.
It is important to be flexible. The longer you delay adjusting your plan, the more disruptive the changes you will have to make eventually.
Strategic downsizing
Lots of people downsize their residence as they get older. While health, safety and convenience may drive this decision, you also have to approach it as an important financial decision.
If you own a home, downsizing can be an efficient way of unlocking the equity in that home. Unlike a home equity loan or reverse mortgage, it allows you to do so without borrowing against it. With interest rates having risen a lot, borrowing may not be the most cost-effective way to use the equity in your home.
However, you have to plan carefully for what happens after you sell a home. While you will get the proceeds and save on property taxes and maintenance expenses, you may now be looking at years of rental or other residential fees.
Research those expenses before you commit to selling your home. Assume those expenses will rise with inflation over time. Then calculate whether the sale of your home plus any other income and resources will allow you to cover those expenses for the foreseeable future.
Catch-up contributions
People aged 50 or over who are still putting money into a retirement plan may be eligible to make catch-up contributions. This is an extra amount over and above the normal contribution limits for IRAs, 401(k) plans and other defined-contribution retirement plans.
If you have enough income, catch-up contributions can help rebuild your retirement savings after a bad investment year. As the name suggests, they can also help your savings catch up if your retirement savings so far have fallen behind what you’ll need.
RMD management
One final thing that can help conserve retirement resources is efficient management of required minimum distributions (RMDs).
Once you reach age 73, you may be required to start taking a certain amount out of your retirement plan each year. For savings that previously have been tax-deferred, these distributions from the plan will be taxable.
RMDs are made according to an IRS schedule based on your age, marital status and retirement account balance. Once the money is distributed, you lose the tax advantages of having it in the account.
However, here’s the crucial part: just because you have to take that money out of your retirement account doesn’t mean you should spend all of it.
Saving and investing some of the money you take out can help you mitigate the impact of RMDs occurring when the value of your investments is down. It can also help you prepare for the long-term effects of inflation.
After a period of great financial adversity, it’s more important than ever to remember that retirement planning does not finish with retirement. There is still more time to plan for. You may just have been through a bad chapter, but that’s not the end of the story.
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Disclaimer: The article and information provided here is for informational purposes only and is not intended as a substitute for professional advice.
