Increase Savings or Work Longer?

When it comes to retirement savings, many nest eggs fall short. However, that doesn't mean that you can't retire as planned.

The inevitable question, though, when one runs the numbers and finds that her retirement plan does not quite meet her anticipated needs is, “What do I need to do to reach my retirement savings need?” Part of the solution may boil down to increasing savings, working longer or some combination of both.

However, in a trade-off between working longer or saving more, a recent report found that delaying retirement for just three to six months has the same impact as saving 1 percent more of your salary over 30 years.

What’s more, the power of saving continues to decrease as workers approach retirement age, according to the working paper from the National Bureau of Economic Research. For example, boosting your retirement contributions by 1 percent for 10 years before retiring has the same effect as working a single month longer, the report said.

How does 10 years of saving at an increased rate equate to just waiting one month more to retire? There are several reasons working longer has such a positive effect on retirement income. First, additional months or years of work allow workers to contribute more to their retirement accounts. Second, delaying withdrawals from those accounts allows more time for them to grow.

The largest factor, however, is this one: the increase in Social Security benefits from claiming later. For example, if an average 66-year-old works one year longer, and claims Social Security one year later, that person sees a 7.75 percent rise in retirement income, the researchers calculate. Some 83 percent of the retirement income gain comes from the rise in Social Security benefits.

This Social Security effect is highly progressive. The lower one's income, the larger the gain in Social Security benefits from additional earnings. Thus, a lower wage worker needs to work only 2.1 months longer to equal the benefit of 30 years of saving an extra percentage point of income, while a higher wage earner has to work 4.4 months longer to get the same benefit.

 Source: National Bureau of Economic Research Digest, May 2018

Source: National Bureau of Economic Research Digest, May 2018

Still, don't count on working longer to solve a shortfall caused by your not saving enough. Working longer should be more like a contingency than a strategy. The reality is most people want to retire as soon as they can.

Moreover, there are factors that can limit the ability to work longer, despite the best plans. Many retirees wind up leaving the workforce earlier than planned, according to the latest Retirement Confidence Survey from the Employee Benefit Research Institute. Reasons include layoffs, health problems and caregiving for a spouse or loved one. To that end, saving more still helps. The more you save, the less you're living on and the less you'll need to retain that lifestyle.

So in the end, the best answer to the inevitable question remains “a combination of both.