Baby Boomers have been retiring in increasing numbers, and now some are dying. They leave behind a giant pile of money that the media have labeled “the greatest wealth transfer” in modern history: a collective net worth that currently sits at $35 trillion, much of which will be passed down to their heirs. It’s so much money that, naturally, the Biden administration is examining ways to tax it, charities and nonprofits are angling for their share of it, and estate lawyers are licking their chops at the prospect of helping to plan how it all gets dispensed.
Yet news stories about this wealth transfer are overlooking something basic: a simple explanation of how boomers accumulated this wealth amid a supposedly massive financial crisis spurred by the alleged inadequacies of our private-sector pension systems, which, four decades ago, began a shift from defined-benefit retirement plans to individual savings accounts. Rather than leaving a generation bereft, as critics have predicted for years, that shift helped place an unprecedented amount of money in the hands of boomers, while laying bare the inadequacy of the defined-benefit systems that persist today in some places—especially in the misguided public sector.
The seeds of the shift were planted in the 1960s, amid several well-publicized failures of private pension systems (including a plan covering some 10,500 workers and retirees at a Studebaker auto plant in Indiana that went bust, leaving enrollees with just cents on the dollar). Spurred by such disasters, Congress created legislation to govern plans and protect employees, including rules on how workers should be vested in these plans and what constituted minimum funding requirements for pensions. The new rules seemed to make sense until it became clear that they had sharply boosted the cost of funding defined-benefit plans, which guarantee workers an income for life based on a formula that considers a worker’s years of service and final salary.
Unable to meet those costs at an affordable price and wary of the risks now involved, companies began rapidly shifting toward defined-contribution plans, in which employers set aside a specific amount for each worker in an individual account—a type of plan formalized in a 1978 amendment to U.S. retirement law. The share of workers with defined-benefit-only plans in private industry consequently dropped precipitously, from about 25 percent in the 1970s to about 3 percent today, while the share participating in company-owned, defined-contribution pensions rose from 8 percent in 1980 to 31 percent today. Around the same time, Congress enacted laws to let those who worked for businesses that didn’t offer retirement plans save on their own through individual retirement accounts.
Boosted by market returns, assets in these contribution plans have soared. In the last 25 years alone, the combined assets of defined-contribution plans offered by employers and individual retirement accounts (many of which are rollovers from company defined-contribution plans by workers who have changed jobs) have increased nearly eightfold, to $23 trillion—far outpacing the holdings in any other category of retirement plans. Those accounts now amount to nearly two-thirds of all U.S. retirement assets, up from less than 25 percent in 1995. They are the principal reason why Americans are hanging onto some $34 trillion in retirement savings, a startling increase from about $13 trillion two and a half decades ago.
Over time, the rate at which Americans have saved for retirement has increased impressively. A 2016 study of gains in retirement savings over a 27-year period by Andrew Biggs of the American Enterprise Institute found that retirement savings of those aged 55 to 69 grew by 126 percent after inflation, to $448,292. The gains haven’t all been concentrated among the rich, either. As Biggs points out, even the retirement savings of middle-income Americans increased by 70 percent after inflation in that time. With these gains has come a sharp decline in poverty among seniors. When Social Security benefits are included in the mix, fewer than 10 percent of the elderly retire with less than half of the income they earned while working.
Something very different happened in the public sector, however. There, the defined benefit survived, in large part because federal legislation laying out standards for private plans did not apply. Local governments promised workers attractive pensions using looser accounting principles, making those plans seem more affordable. Consequently, 86 percent of state and local government workers still have access to defined-benefit plans today—but at an enormous public cost. States and localities have shortchanged these systems by some $1.7 trillion, which taxpayers largely are on the hook for as more and more government workers retire. Even amid this funding disaster, public-sector union leaders have vigorously fought to preserve defined-benefit plans, characterizing efforts to junk them in favor of individual savings accounts as a disaster that would increase poverty among seniors and expand retirement insecurity.
The attraction of defined-benefit plans is understandable. They offer predictability, which seems especially significant amid all the media stories about a retirement crisis that private sector workers face. But they pay off only for workers who commit to a lengthy career of public service with one employer and then live long enough to collect a substantial portion of their benefits. These pensions put away very little for workers in the early years of their employment. A 2013 Manhattan Institute study of public school retirement systems, for instance, found that a New York teacher who began in the schools at age 25 would, by the time he reached 50, accumulate the equivalent of a mere $100,000 in retirement savings through a defined-benefit plan. But if that teacher remained another 15 years, those savings would zoom to the equivalent of $600,000. The problem is that fewer than 33 percent of those who begin a career as a teacher remain even 20 years. Rich pensions are the preserve of the few who stick it out. And even after a long career, much of the benefit disappears when the worker dies, leaving little to pass on. Though some defined-benefit plans do offer spousal benefits—typically about 50 percent of the original pension—these are costly for the worker and, of course, leave nothing to pass on to children and grandchildren.
Government is nothing if not covetous of wealth created in the private sector. Now that the narrative is changing from “those poor retiring boomers” to “those rich retiring boomers,” proposals have emerged to tax these savings in new ways. The Biden administration has proposed a tax on capital gains in retirement accounts at the point of transfer to heirs. Other proposals include capping the amount that can reside in tax-free retirement accounts and taxing the rest. For years, politicians in both parties have considered “saving” Social Security in part by reducing or eliminating benefits earned by those who have accumulated several million dollars in retirement accounts—an idea that smacks of punishing folks who did the right thing by preparing for their golden years.
As boomers prepare to go not gently, but richly, into that good night, the struggle for what they will leave behind is just beginning.