Why Your 401k Statement Got Updated

Your latest quarterly 401k statement likely includes some new information that can be quite an eye-opener.

For eons, your 401k statement has shown the total value of your investments. For those of you who have been saving for years, that can be a large lump sum dollar amount.

But lump sums can be deceiving. That big sum needs to last you for what can be a very long retirement. If you live into your 90s—which is quite possible if you land in your 60s in solid health—the challenge is to understand how much that lump sum can generate in monthly income, without the risk of the money running out.

The new information aims to do just that. Your 401k statement must now include an estimate of how much monthly income your current account balance could generate during your retirement if you bought an annuity at age 67 that paid you a guaranteed monthly amount for the rest of your life.

This new “lifetime income illustrator” is a commendable attempt by Washington to help people make better retirement planning choices. That said, it is far from perfect. For starters, it tells you only what your current balance might generate in monthly guaranteed income. If you’ve got years—decades!—of work ahead of you, the reality is that your future balance will be a lot higher, given your ongoing contributions and market gains over time.

And it’s simply an estimate based on this one retirement account. The illustrator does not account for other 401ks, IRAs, Social Security, and a pension if you are eligible.

I think the best use of the new lifetime income illustration is to serve as a wake-up call/motivator.

For those of you with big lump sum balances who are nearing retirement, the monthly income estimate can be an eye-opener. Even if you aren’t interested in a simple income annuity (the type used in the illustration), that dollar amount is a good guide for how much you could safely generate on your own without risking using up all the money too fast.

If that monthly estimate is more than you need, congratulations! You’re likely in fine shape. But I am guessing many of you may be surprised that the monthly income estimate is less than you were planning/hoping for.

In that case, the illustration has done its job. It’s alerted you, and now the ball is in your court to revise your plan. Save more. Work longer. Downsize sooner rather than later—this can free up more money to save each month and reduces your ongoing living costs, which will be quite welcome when you do retire.

For younger workers, the illustrator can also be an excellent nudge to go get a better illustration that accounts for your future contributions and potential investment returns. There are free online “retirement income calculators” that factor in future contributions and investment returns.

In fact, your current 401k provider may have one. Many of the options in these calculators are pre-populated with assumed contribution rates and rates of return. I recommend you run the calculator a few times to see how things might work out if returns are lower than the calculator’s assumption. See how things work out if the assumed rate of return is 5%, not the 8% or so that is common in many calculators. And play around with your contribution rate. Saving more, especially when you are younger, can have a huge upside, as the money compounds over decades.