Do the Math For Lost Pensions

As company after company across the country freezes or terminates traditional pensions, typically at the same time shifting to new or sweetened 401(k) plans, workers face a new and very important question:

How much do I need to save to make up for pension benefits I was expecting and now won't get?

The answer, for tens of thousands of mid-career workers, is a lot.

Exactly how much depends on so vast a number of variables -- including the worker's age, the generosity of the original plan, the rate of return achieved under the 401(k) -- that no rule of thumb can be reliable.

But a study by pension expert Jack L. VanDerhei of Temple University and the nonprofit Employee Benefit Research Institute (EBRI) finds that middle-age workers who had generous pensions and who don't get particularly high 401(k) returns would have to sock away 20 percent of pay to save enough to buy an annuity to replace lost pension benefits.

The money doesn't all have to come from workers. It could be contributed by employers or could come from a combination of employee contributions and employer match, as is common today. But, since the cost of traditional pensions is commonly borne entirely by employers, whatever additional money a worker has to put in represents a pay cut.

That cut can come today, if the worker ponies up to have more retirement income, or later in the form of reduced retirement income. But either way, it's a cut.

How much?

Let's look at a specific example that VanDerhei worked out.

Assume a worker joined a company as he turned 30, expecting to work to age 65. Assume further that the company has a "final-average defined benefit" pension plan, a common type for middle managers, and that the plan promised a benefit calculated by multiplying the number of years worked times the average of the three highest years of pay times 1 percent.

Now assume that the worker reaches age 50 this year and is earning $70,000. If his pay goes up 3 percent every year, at 64 he will make $105,881, and the average of his "high three" years will be $102,827.

If the pension plan remained in place, his annual benefit would work out to: