Every month when I calculate my passive income progress, I also discuss my objectives, my progress and a few other aspects. One thing that I was told was not “realistic” was not calculating any income from my government pension. Then, a few weeks ago I met a financial planner who also included a lot of money from the government. Many others that I know are spending a lot of time trying to figure out how much their company pension will end up paying out once they retire. Who could blame them right? Every 2 weeks, they see money come out of their paycheck towards the pension with their employer also setting aside money.
Depending on your employer or government, pensions are generally divided into 2 main categories:
–Defined contribution pension: In this type of plan, the sponsor (government or employer) promises to set aside a given amount of money over time, invest it to the best of its ability and pay out the proceeds once the employee or pension recipient becomes eligible.
–Defined benefit pension: In this type of pension which is much more common, the sponsor promises to pay out given benefits (based on a formula that includes years of experience, age, salary, etc) and is responsible for saving, investing and paying out those amounts when the pension owner becomes eligible.
This second part is the one that most people depend on and I’d argue that it’s a big mistake to do so. Why?
State Of Things
Any entity that has a pension plan calculates on an annual basis (or more frequently) if the plan is fully funded. What does it mean? If you have one fund that has $50,000 and you expect that account to be worth $100,000 10 years from now when your only employee will retire which is exactly what you estimate will be required to pay that employees pension until his death, you would be fully funded. If however you don’t have enough, the plan would be under-funded. That would mean you’ll need to contribute more than what you have been doing in order to not fall short.
These days, the large majority of funds are severely underfunded. Many cities, states and governments are in deep trouble as they have no way to pay out what they’ll owe 10 years from now in the current state of things…
Wait.. It Gets (Much) Worse
Any calculation of a pension plan’s status requires assumptions which make a huge difference. A big one is the fact that most plans assume a 8-9% annual return in the markets. It’s not impossible but it’s safe to say that at this point, it’s looking very unlikely that returns will average 8-9% in the next few decades. We are unfortunately stuck in a very slow growing economy. In a world where governments are going bankrupt and where they keep kicking the can down the road, it’s very worrying that anyone would count on these returns. As bad is the fact that they assume that pension plan receivers will live to 75-80 years old when in fact we are living longer than ever before.
I would feel much better if governments would sit down, admit that the current plans are impossible to maintain and propose something more realistic. A few governments have tried this without success. In the end, the only ones taking action (Greece, Spain, etc) are the ones that no longer have another option. Once that happens, it’s too late for citizens to adjust. That is why I refuse to count on such money. Sure, I will be getting some of what the government is promising me. But will it be 75%? 50%? 25% I want to avoid at all cost being stressed out about my retirement because I mistakenly decided to rely on a government pension.
What about you? Do you count on the government’s pensions? Or perhaps your employersIf you liked this post, you can consider subscribing to our free newsletters here