There are 2 key components to achieve financial success. The first is delayed gratification. Do you remember the Stanford experiment where a child was left alone in a room with a marshmallow for 15 minutes? They were told that if they waited to eat it they would get another marshmallow when the adult returned. All the children who took part in the experiment were tracked into adulthood and the ones who waited for the 2nd treat were higher achievers in many areas.
However, I have blogged enough on self discipline. I would like to discuss the second factor in financial success which is control over your investments.
This blog post was prompted by recent discussion in the media about pension plans but the final kicker was when a prospective client showed me his latest pension statement.
In the past the 3 pillars of retirement planning were personal savings(RRSP etc.), pension plans, and government benefits. Not only do fewer citizens belong to a pension plan, governments are seeing the looming amount of retirees on the horizon and wondering if they will be able to cope.
A person only has full control over his or her personal savings. With financial circumstances of the past 9 years pension plans are declining from their previous gold untouchable standard. I have blogged about this in the past. Low interest rates are one factor that is negatively impacting pension plan returns. Low interest rates may mean that pension managers need to re-evaluate their investments in order to make the return needed to provide monthly benefits. Yet at the same time the plan’s mandate is conservative. An unfunded liability in a pension plan is the amount that the plan would fall short in being able to pay the benefits for their members. The plan that the prospective client showed me had an unfunded liability of 62.88% and clearly stated that they would fall short of meeting their obligations to their members. As a retiree how would you feel if you were told that your benefits would be lowered or eliminated?
A healthy pension plan would have an unfunded liability in the 10% range. In other words, the plan can meet at least 90% of its obligations. A smaller shortfall can be made up with special payments or asking plan members to pay more. I have clients whose payments are around 10% of their paycheque, which impacts their ability to meet monthly expenses. Keep in mind, as a member of a pension plan your contributions are not just for your future benefits but help the plan pay present and future retirees.
The status quo thinking that we must rethink is that defined benefit pension plans are disappearing, defined benefits plans are not guaranteed, and the risk of NOT commuting a plan when you leave a job is high especially if you are under 40 years old.
Contrast that with your personal savings which in our financial professional relationship can be rebalanced, with advice relevant to your particular financial goals.
I have also been asked if buying back pensionable time is a good idea. I would say a good rule of thumb is that the younger you are the less that is a good idea. But there are calculations that would prove that as every situation is different. The amount of money needed to buy back pensionable time could be better used to pay off debt or increase your own personal investments, because in the end a pension plan is only a promise, a contract that can be changed and not a guarantee.