7 Reasons Retirement Will Be Difficult for Generation Y

Why 20-somethings need to save more for retirement than older generations.

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Employees under age 30 are in the best position of their lives to begin saving for retirement. But few of these newly minted workers are currently on track to retire comfortably. Here’s a look at why many members of Generation Y may face more difficult retirement prospects than the baby boomers.

[See 10 Key Retirement Ages to Plan For.]

Higher savings needs. Workers between ages 18 and 30 will need 18.7 times their final pay to maintain their current standard of living in retirement after age 65, including Social Security, traditional pension income, and personal savings, according to recent calculations by Aon Hewitt. Twenty-somethings will need to save considerably more on their own than generation Xers age 31 to 45, who will need 16.1 times their final pay, and young baby boomers between ages 46 and 54, who should save 14.6 times their salary for retirement. However, young employees are on track to accumulate just 12.4 times their final salary, or only two-thirds of what they will need in retirement, the study found.

Less access to pensions. Many companies with traditional pensions and retiree medical benefits have closed the plans to new hires or made them less generous. If you exclude the workers fortunate enough to have access to a traditional pension plan from the analysis, the typical 20-something is projected to have a retirement shortfall of 8 times their final pay. "Younger workers will have fewer future benefits from their employers and potentially the government,” says Pamela Hess, director of retirement research at Aon Hewitt. “They need to save a third more in their defined contribution plans than workers who are nearing retirement today, but there's clearly a lack of urgency to proactively save."

Ignoring the retirement plan. Only half of generation Y workers who are eligible to participate in a 401(k) plan do so, according to the Aon Hewitt analysis. Among those who do save, the average contribution rate is 5.3 percent of pay, far less than the 6.8 percent generation Xers are saving and the 8.4 percent of pay young baby boomers are tucking away for retirement. Some 41 percent of workers age 30 and under are not saving enough to receive the entire employer-provided 401(k) match.

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Cash outs. Many 20-somethings dip into their retirement savings well before retirement. Over half (59 percent) of generation Y workers cash out their retirement savings when changing jobs, Aon Hewitt found. Employees who raid their retirement accounts early miss out on decades worth of tax-deferred investment growth. For example, a 25-year-old employee who cashes out $5,000 from a 401(k), perhaps netting only $3,500 after taxes and penalties, could potentially be sacrificing $56,000 upon retirement if he or she earns 7 percent annual returns until age 65, according to Aon Hewitt calculations.

A higher Social Security retirement age. Most baby boomers will be eligible to collect the full amount of Social Security they are entitled to at age 66. Americans born in 1960 or later must wait an extra year, until age 67, to claim their full due, under current law. The full retirement age is 65 only for workers born in 1937 or earlier. Retirees who sign up before their full retirement age will receive reduced payouts for life.

Longer life expectancy. Members of generation Y are likely to live longer and need to finance even more years of retirement than people retiring this year. A man reaching age 65 today can expect to live 18 more years until age 83. A woman the same age is likely to live an average of 20 years more until age 85, according to Social Security Administration data. Generation Y members are likely to have an even longer retirement, even after you factor in a higher retirement age. A male born on January 1, 1985 who makes it to age 67 can expect to live an average of 19 more years, or until age 86. A female born on the same date should plan on living 21 more years to age 88, according to SSA data. And, of course, these are just average ages. There’s a significant possibility that healthy retirees will live past age 90 or even reach 100.

[See Retirement Benefits: What to Expect in 2011.]

Competing financial needs. Young workers have plenty of other costs competing for their paychecks. Twenty-somethings are more likely to be making student loan payments, paying off credit card debt, and are probably paying more out-of-pocket health care costs than their parents were at the same age. Young people also have expenses their parents never faced in their 20s including bills for a cell phone and Internet connection. Saving in a 401(k) plan could propel young people to a comfortable retirement if they save in the plan consistently. Members of generation Y who don’t begin saving for retirement in their 20s or early 30s could end up in a worse financial position than many of the baby boomers are now.