Why today's savings rates may spell trouble at retirement

By Richard Barrington

Financing retirement is often described as a three-legged stool, with Social Security, employee benefit plans and personal savings all playing a role. However, the personal saving leg may be coming up a little short lately. As a result, that three-legged stool might be a bit wobbly for some, and downright dangerous for others.

After initially improving in response to the Great Recession, personal savings rates slipped last year, and are off to a weak start in 2014, at just 4.1 percent for the first quarter. This may be a bad time to skimp on personal savings, because it may have to play a bigger roll in your retirement finances than you think.

Why personal savings have to improve

Personal saving is the leg of the retirement-funding stool over which you have the most control. After all, you do not get to choose whether you make contributions to Social Security, and the investment choices of your 401(k) or other plan may be limited by your employer. When it comes to your personal savings, you have complete control over how much to save and how to invest it.

That control is a double-edged sword, because while it puts you fully in charge of this aspect of your savings, it also makes you fully responsible. It is all too easy to neglect the role of personal savings in retirement planning, which is why that leg of the stool may be the most likely to collapse.

Here are three reasons why you should consider keeping a closer eye on your personal savings rate:

  1. Social Security income may be overestimated. If you have been getting projections of your Social Security benefits from the Social Security Administration, keep in mind that those projections are based on you continuing to earn at a similar rate from now to retirement. In reality, neither your income nor the length of your career are guaranteed. If you are young, you also face the risk that the eligibility age might be raised by the time you are nearing retirement.
  2. Personal savings are separate from your 401(k) contributions. A generation ago, it was easier to think of personal savings as separate from employee benefits because defined benefit plans were more prevalent -- meaning that the employer made the contributions, often with little thought given to it by the employees. Now, employees are responsible for making their own contributions to 401(k)s and other defined contribution plans. It is natural to think that once you do this, you have done your job in terms of retirement saving, but you still have to make a separate effort to build up personal savings.
  3. Personal savings may have to perform multiple roles. Conservatively invested money in a saving account or similarly liquid vehicle should be your first line of defense against financial setbacks. At the same time though, with savings account interest rates so low, you should start to invest some of your personal savings in growth-oriented investments.

Think of all the uncertain variables involved in retirement funding: rates of return, the length of your career, inflation, your life span and so on. Given that personal saving is the one area over which you have complete control, you might want to use it to introduce at least one element of certainty into the mix.