Pre-Retirement Lump-Sum Pension Distributions and Retirement Income Security:Evidence from the Health and Retirement Study 1

Transcription

1 ISSN Agng Studes Program Paper No. 23 Pre-Retrement Lump-Sum Penson Dstrbutons and Retrement Income Securty:Evdence from the Health and Retrement Study 1 Gary V. Engelhardt Center for Polcy Research Maxwell School of Ctzenshp and Publc Affars Syracuse Unversty 426 Eggers Hall Syracuse, New York (315) Fax (315) e-mal: ctrpol@syr.edu June 2001 $5.00 Up-to-date nformaton about CPR s research projects and other actvtes s avalable from our World Wde Web ste at www-cpr.maxwell.syr.edu. All recent workng papers and Polcy Brefs can be read and/or prnted from there as well.

2 CENTER FOR POLICY RESEARCH Sprng 2001 Tmothy M. Smeedng, Drector Professor of Economcs & Publc Admnstraton Assocate Drectors Margaret M. Austn Assocate Drector, Budget and Admnstraton Douglas Wolf Professor of Publc Admnstraton Assocate Drector, Agng Studes Program Douglas Holtz-Eakn Char, Professor of Economcs Assocate Drector, Center for Polcy Research John Ynger Professor of Economcs and Publc Admnstraton Assocate Drector, Metropoltan Studes Program SENIOR RESEARCH ASSOCIATES Scott Allard... Publc Admnstraton Dan Black...Economcs Stacy Dckert-Conln...Economcs Wllam Duncombe... Publc Admnstraton Gary Engelhardt......Economcs Deborah Freund.... Publc Admnstraton Vernon Greene.... Publc Admnstraton Leah Guterrez... Publc Admnstraton Madonna Harrngton Meyer... Socology Chrstne Hmes... Socology Jacquelne Johnson... Socology Bernard Jump...Publc Admnstraton Duke Kao...Economcs Erc Kngson......Socal Work Thomas Knesner......Economcs Jeff Kubk... Economcs Jerry Mner...Economcs John Moran......Economcs Jan Ondrch... Economcs John Palmer...Publc Admnstraton Lor Ploutz-Snyder...Health and Physcal Educaton Grant Reeher...Poltcal Scence Stuart Rosenthal......Economcs Jod Sandfort...Publc Admnstraton Mchael Wasylenko... Economcs Assata Zera... Socology GRADUATE ASSOCIATES Reagan Baughman...Economcs Robert Bfulco...Publc Admnstraton Carolne Bourdeaux...Publc Admnstraton Chrstne Caffrey... Socology Chrstopher Cunnngham...Economcs Tae Ho Eom...Publc Admnstraton Seth Gertz...Economcs Andrzej Grodner...Economcs Ran Henderson...Publc Admnstraton Pam Herd... Socology Lsa Hotchkss...Publc Admnstraton Peter Howe...Economcs Benjamn Johns...Publc Admnstraton Anl Kumar...Economcs Kwangho Jung...Publc Admnstraton James Ladtka...Publc Admnstraton Xaol Lang... Economcs Donald Marples... Economcs Neddy Matshalaga... Socology Suzanne Plourde... Economcs Nora Ranney...Publc Admnstraton Catherne Rchards... Socology Adrana Sandu...Publc Admnstraton Mehmet Serkan Tosun...Economcs Mark Trembley...Publc Admnstraton James Wllamson...Economcs Bo Zhao...Economcs STAFF JoAnna Berger...Receptonst Martha Bonney...Publcatons/Events Coordnator Karen Cmlluca... Lbraran/Offce Coordnator Kat Foley...Admnstratve Assstant, LIS Esther Gray...Admnstratve Secretary Ktty Nasto...Admnstratve Secretary Dense Paul...Edtoral Assstant, NTJ Mary Santy...Admnstratve Secretary Amy Storfer-Isser...Computer Support,... Mcrosm Project Debbe Tafel... Secretary to the Drector Ann Wcks...Admnstratve Secretary Lobrenzo Wngo... Computer Consultant

3 Abstract Ths paper uses data from the 1992 and 1998 Waves of the Health and Retrement Study (HRS) to examne the extent of retrement wealth eroson from pre-retrement lump-sum dstrbutons. There s lttle evdence that spent dstrbutons have resulted n sgnfcant penson leakage. If spent dstrbutons had been rolled over nto a tax-qualfed plan nstead, they would have represented n present value between 5 and 11 percent of penson and Socal Securty wealth for the medan household that spent a dstrbuton. However, one-quarter of the households that spent dstrbutons whch s 2.25 percent of all households age 51 to 61 could have ncreased ther penson and Socal Securty wealth by 25 percent or more had the dstrbutons been rolled over nto a tax-qualfed plan. On the one hand, ths suggests that polces that enforce rollovers mght not rase the retrement ncome securty of the average Amercan household currently enterng retrement or that of the typcal household that spent a dstrbuton. On the other, ths study was based on a natonal sample of ndvduals 51 to 61 years old n Whle these data have sgnfcant advantages over those used n prevous studes, the resultng polcy statements are most accurately appled to ndvduals and households of roughly the same age. If younger ndvduals have lower propenstes toward savng, vew penson assets as less dedcated toward retrement, or have greater access to funds (say, through defned contrbuton plans), then ths analyss may underestmate the eroson to retrement ncome securty for younger cohorts.

4 Introducton An mportant ssue n the desgn of penson systems s the extent to whch workers have access to penson assets upon job change. The federal tax code dscourages such cash settlements before retrement or dsablty n a number of ways. Frst, pensons enjoy the benefts of tax deferral. Contrbutons are tax-deductble and accrue at the pre-tax nterest rate. Contrbutons and nterest are not taxed untl wthdrawal. However, all pre-retrement lump-sum dstrbutons not rolled over nto a tax-qualfed plan, such as an Indvdual Retrement Account (IRA) or other penson, are taxed as ordnary ncome n the year of recept. Indvduals who spend lumpsum dstrbutons forego the benefts of tax deferral. Ths opportunty cost rses wth the ndvdual s margnal tax rate. Second, the Tax Reform Act of 1986 (TRA86) establshed a 10 percent excse tax on dstrbutons to workers under 55 not rolled nto a tax-qualfed plan (Chang 1996). Despte these tax ncentves to preserve penson assets untl retrement, there s great concern by polcy makers that workers wll use lump-sum dstrbutons to fnance current consumpton rather than retrement ncome. Ths wll result n sgnfcant leakage of assets from the penson system. Concern s greatest for young workers who have hgh job moblty but may fnd retrement a dstant prospect. Whle there s a large lterature that descrbes the determnants of the dsposton of lumpsum dstrbutons, lttle s known about the extent to whch spent dstrbutons erode retrement wealth. The current paper provdes some evdence on ths key polcy ssue. Specfcally, t uses detaled retrospectve nformaton on employment hstores, pensons, demographcs, and wealth n the 1992 and 1998 Waves of the Health and Retrement Study (HRS) to quantfy the extent of retrement wealth eroson from pre-retrement lump-sum dstrbutons. There s lttle evdence that spent dstrbutons have resulted n sgnfcant penson leakage. If spent lump-sum

5 dstrbutons had been rolled over nto a tax-qualfed plan nstead, they would have represented n present value between 5 and 11 percent of penson and Socal Securty wealth for the medan household that spent a dstrbuton. However, one-quarter of the households that spent dstrbutons whch s 2.25 percent of all households age 51 to 61 could have ncreased ther penson and Socal Securty wealth by 25 percent or more had the dstrbutons been rolled over nto a tax-qualfed plan. On the one hand, ths suggests that polces that enforce rollovers mght not rase the retrement ncome securty of the average Amercan household currently enterng retrement or that of the typcal household that spent a dstrbuton. On the other, ths study was based on a natonal sample of ndvduals 51 to 61 years old n 1992 from the HRS. These data have sgnfcant advantages over those used n prevous studes. However, the HRS respondents look more lke old-style workers. They are more lkely to have worked n manufacturng, have hgher rates of unonzaton, and greater coverage by defned beneft plans than the typcal workers of today. In fact, over one-half of all lump-sum dstrbutons receved by HRS ndvduals came from defned beneft plans. Therefore, resultng polcy statements are most accurately appled to ndvduals and households of roughly the same age. If younger ndvduals have lower propenstes toward savng, vew penson assets as less dedcated toward retrement, or have greater access to funds (say, through defned contrbuton plans), then ths analyss may underestmate the eroson to retrement ncome securty for younger cohorts. The paper s organzed as follows. The second secton dscusses fndngs from the prevous lterature. The thrd secton gves descrptve statstcs from the HRS whle the fourth secton presents estmates of penson eroson. There s a bref concluson. Prevous Lterature There has been great nterest n lump-sum dstrbutons. Descrptve and multvarate analyses nclude, among others, Fernandez (1992), Atkns (1986), Pacentn (1990), Andrews 2

6 (1985, 1991) Employee Beneft Research Insttute (1989), Gelbach (1995), Chang (1996), Bassett, Flemng, and Rodrgues (1998), Poterba, Vent, and Wse (1998b), Sabelhaus and Wener (1999), Burman, Coe, and Gale (1999a, 1999b), and Purcell (2000). The prmary data source for these studes has been the employee benefts supplement of the Current Populaton Survey (CPS). 2 A consstent profle of dstrbuton recept and dsposton has emerged out of these studes. Younger, more educated, lower-ncome, female, and unmarred workers have been more lkely to have receved a lump-sum dstrbuton. Older, more educated, and male workers were more lkely to have receved larger dstrbutons. Furthermore, there appears to be a sgnfcant correlaton between the sze of the dstrbuton and ts dsposton: smaller dstrbutons were more lkely to have been consumed, larger ones more lkely saved. A number of recent papers have used a new data source on dstrbutons: the Health and Retrement Study (HRS). The HRS s a longtudnal study of a sample of ndvduals age 51 to 61 n These ndvduals and spouses (regardless of age) were ncluded n the study. There were a total of 12,652 ndvduals n the frst Wave that consttuted 7,607 households. Each Wave contaned detaled nformaton on employment, ncome, assets, debts, and pensons. Poterba, Vent, and Wse (1998b) used retrospectve nformaton on dstrbutons from past jobs that was asked n Wave 1. 3 Ther descrptve and lnear probablty analyses of ndvdual characterstcs and dstrbutons broadly replcated what had been found n prevous studes wth the CPS. 4 In addton, they estmated lnear probablty models of the rollover decson. The explanatory varables ncluded the sze of the dstrbuton, educaton, and 1992 ncome. They found that the probablty of a rollover ncreased monotoncally and sgnfcantly wth sze of the dstrbuton and ncome, and was hump-shaped n educatonal attanment. Engelhardt (1999) also examned the determnants of dsposton n the HRS. Overall, hs results were qute smlar to Poterba, Vent, and Wse (1998b). In addton, he found that earnngs and ndustry at the tme of severance have some power n explanng dsposton of penson assets upon job change. In 3

7 addton, the reason for job termnaton was an mportant determnant of the dsposton. Havng been lad off, left work to care for a famly member, qut, and moved are all assocated wth a lower lkelhood of havng made a tax-qualfed rollover. Though somewhat speculatve, the evdence suggested that penson assets have been used to buffer economc shocks to the household. Fnally, Hurd, Lllard, and Pans (1998) examned job changes n Waves 1-3 of the HRS. They estmated probt models of the decson to roll over versus cash out and found results smlar to those of prevous studes wth respect to demographcs and ncome, as well as some evdence that workers wth short tme horzons and hgher mortalty rsk were less lkely to have rolled over. Descrptve Analyss To measure the extent of retrement wealth eroson, a sample of households from the 1992 HRS (Wave 1) was drawn. Each household contaned at least one ndvdual who ether reported havng left a job wth a defned contrbuton (DC) plan, and thus was assumed to have had access to penson assets, or reported havng receved a lump-sum dstrbuton from a defned beneft (DB) plan. The fnal sample conssted of 1,282 households, all of whch had access to penson assets upon job change at least once pror to retrement. Appendx A gves a detaled descrpton of penson nformaton n the HRS and the sample constructon. Table 1 shows the dsposton and sze of pre-retrement dstrbutons for the sample. These fgures are weghted by the HRS samplng weghts. Column (1), panel A, shows the percent of all recpents by dsposton. Most recpents cashed out upon job termnaton. Only 26.7 percent of dstrbutons were rolled nto an IRA or left to accumulate n the employer s plan. A total of 67.6 percent were receved as a cash settlement, on whch ordnary ncome tax and, when approprate, penalty were pad. If the penson was cashed out, the ndvdual was asked about the use of the penson. There were four possble answers: spent, saved or nvested, pad blls or debt, and other. 5 One-half of those who cashed out spent ther dstrbuton, about one- 4

8 quarter saved or nvested, and about one-eghth pad off debt. About one-sxth of those who cashed out reported other as the use. If one assumes that other ndcates uses that effectvely were spendng (.e., does not nclude uses that ncreased non-penson assets or decreased nonpenson debts), then 43.9 percent ( ) of all recpents and 64.8 percent (43.9/67.6) of those who cashed out spent ther dstrbutons. Columns (2) and (3) dsplay statstcs for recpents who reported DC and DB plans, respectvely. Recpents wth all other plan types are shown n column (3). Recpents wth DC plans were more lkely to have rolled ther penson nto an IRA and less lkely to have receved an after-tax cash settlement than recpents wth other plans. However, upon recept of a cash settlement, they were less lkely to have saved or reduced debt than recpents who had other plans. To evaluate the long-term effect of dstrbutons on retrement ncome adequacy, t s mportant to know the extent to whch cash settlements are put to wealth-preservng uses. The most common way to preserve wealth s through an IRA rollover. However, f the key polcy concern s that penson dstrbutons not be used for pre-retrement consumpton, then an examnaton of IRA rollovers may be too narrow. For nstance, workers may choose to pay taxes and penaltes on a lump-sum dstrbuton and nvest n a non-penson asset or pay off debt. Under ths nterpretaton, and tax consderatons asde, unspent after-tax cash settlements represent shfts n the composton of the respondent s wealth portfolo, but do not consttute changes n total wealth. These funds are preserved and potentally could provde for ncome or consumpton n retrement. There are a number of caveats wth ths framework of wealth preservaton. Frst, t assumes that the assets purchased wth dstrbutons wll be a good store of value untl retrement (e.g., purchase of a house) and that the debt retred was ncurred n the process of wealth accumulaton, such as asset acquston (e.g., payng down mortgage debt). It also has some 5

9 strong mplct assumptons about asset fungblty. Clearly, f the debt that was retred had fnanced prevous consumpton (e.g., credt card debt), then payng down debt wth a dstrbuton s not wealth preservng. Ths s especally the case for any borrowng done n antcpaton of a dstrbuton. If an ndvdual took a vacaton upon havng receved a dstrbuton, that dstrbuton s consdered spent under the defnton above. However, f the same ndvdual borrowed to pay for the vacaton n antcpaton of the dstrbuton and then used the dstrbuton to pay off the debt, then the dstrbuton s consdered preserved. Both scenaros have the same economc consequences, but are measured dfferently. To the extent that payng down debt s not truly savng, the fgures n Table 1 wll overstate the amount of wealth preservaton. Fnally, because lfetme job changes are not random wth respect to desred consumpton, savng, and lmtatons on ntertemporal choce, such as borrowng constrants, there s no convncng way to solate the causal effects of lump-sum dstrbutons on consumpton and savng behavor. That s, households that saved dstrbutons may have dffered from households that spent dstrbutons n ways that were systematcally related to consumpton and savng behavor. For example, savers may have had dfferentally better access to credt markets and debt-fnanced purchases whereas spenders may have had to equty-fnance purchases and used ther dstrbutons as the equty source. The retrospectve nformaton on dstrbutons n HRS (descrbed n Appendx A) s the most detaled to date, but not detaled enough to account for such dfferences across households. Panel B n Table 1 gves summary statstcs by the type of rollover: tax-qualfed and wealth preservng. Tax-qualfed rollovers are dstrbutons rolled to an IRA, transferred to a new employer, or converted to an annuty. None trggers federal ncome tax or penaltes. Wealthpreservng rollovers nclude tax-qualfed rollovers and after-tax cash settlements that were reported saved/nvested or used to pay blls/debts. From column (1), only 28 percent of all recpents had tax-qualfed rollovers. However, 51.7 percent had wealth-preservng rollovers. 6

10 Based on these fgures, 23.7 percent of recpents had an after-tax cash settlement that was used to ncrease assets or reduce debts, and from panel A t s clear that most was for asset accumulaton. Ths s surprsng, because such portfolo reallocatons come at the cost of the penalty tax and the present value of the loss of tax deferral (untl retrement) on the dstrbuton. Only ndvduals wth a hgh margnal value of wealth (.e., who had severe portfolo msallocatons or were borrowng-constraned) ratonally would have settled after-tax and preserved wealth. As descrbed above, t has been documented well by prevous authors that larger dstrbutons were more lkely to have been saved than smaller dstrbutons. Columns (4) through (6) show the mean dstrbuton by dsposton. The medan s n square brackets. All fgures are n real 1992 dollars. 6 In the bottom row n panel A, the mean and medan dstrbutons for all uses were $29,880 and $11,081, respectvely. In comparson, the mean and medan dstrbutons for those recpents who rolled over to an IRA were sgnfcantly larger: $59,136 and $16,584, respectvely. All after-tax cash settlements had a mean and medan of $17,753 and $8,920, respectvely. Wthn ths category, settlements that were saved/nvested were much larger than those that were spent or pad blls/debts. Because larger dstrbutons were more lkely to have been saved, columns (7) through column (9) gve the percent of all dstrbutons by type of dsposton as a measure of ncdence. These dollar-weghted frequences cast a more favorable pcture of the preservaton of penson wealth upon job change. In panel B, 55 percent of all dstrbutons were tax-qualfed rollovers, and 71.8 percent were wealth-preservng rollovers. Therefore, even though only about half of the recpents had wealth-preservng rollovers, almost 72 percent of the pre-retrement dstrbuton dollars were saved. These results are smlar to those found n Fernandez (1992), Poterba, Vent, and Wse (1998b), Bassett, Flemng, and Rodrgues (1998) and Chang (1996), among others. 7

11 Dstrbutons and Retrement Wealth Eroson The prmary polcy concern s that lump-sum dstrbutons consumed pror to retrement may erode retrement ncome securty. Whle undoubtedly true, prevous studes have provded no evdence that ths s quanttatvely mportant. Ths s prmarly because data sources used n those studes, such as the CPS, lacked nformaton on Socal Securty, penson, and other wealth needed to measure mpact of the leakage of penson assets on household wealth. Wth ts detaled nformaton on pensons, Socal Securty wealth, lfetme earnngs, demographcs, and non-penson wealth, the HRS offers a unque opportunty to estmate how much spent lump-sum dstrbutons have decreased retrement resources. The HRS has a number of advantages. Frst, t contans detaled data on household fnancal and housng wealth. Arguably, they are as good or better than the SIPP data. Second, the study obtaned detaled nformaton from the respondent on prvate pensons on current and past jobs. 7 Thrd, respondents were asked permsson to lnk ther survey responses to admnstratve earnngs hstores and benefts records from the Socal Securty Admnstraton (SSA). These data are made avalable to researchers through a restrcted-access data agreement. Wth detaled fnancal, housng, penson, and Socal Securty wealth, the HRS s the only household survey to gve complete coverage of the household portfolo. Fnally, the survey was well tmed. Because they were 51 to 61 n 1992, the households were clustered around that crtcal age of 55, after whch the law permts penson cash-outs wthout penalty. The prmary dsadvantage s that the HRS only covers one brth cohort (.e., those born ). The HRS respondents look more lke old-style workers. They are more lkely to have worked n manufacturng, have hgher rates of unonzaton, and greater coverage by defned beneft plans than the typcal workers of today (Gustman and Stenmeer 1999). In fact, over one-half of all lump-sum dstrbutons receved by HRS ndvduals came from defned beneft plans. Therefore, the estmated retrement wealth eroson may not apply to younger cohorts who 8

12 have had greater exposure to defned contrbuton plans and greater access to penson assets upon job change. Ths s dscussed n more detal n the concluson. Ths secton explots the HRS wealth data and addresses mportant two questons. Frst, are households that spent dstrbutons less wealthy gong nto retrement than those that dd not? Second, how much more n retrement resources would households that spent dstrbutons have had had they rolled over ther dstrbutons? Are Spenders Currently Less Wealthy than Savers? It s clear from the prevous lterature that ndvduals who rolled over dstrbutons dffered at the tme of termnaton from those who spent them. In partcular, spenders were younger; less educated, earned less, and had lower job tenure and smaller dstrbutons. Unfortunately, the HRS dd not ask retrospectve questons about personal wealth at the tme of termnaton. So, t s not known f spenders were systematcally less wealthy than savers, and, therefore, the extent to whch the dsposton decson was related to lfetme wealth. However, the detaled data on present household wealth n the HRS can be used to assess a related queston: whether those who spent dstrbutons n the past are currently less wealthy (.e., n 1992) than those who rolled over. Panel A of Table 2 shows mean current wealth of households that ever spent a dstrbuton versus those that saved all dstrbutons. Standard devatons and medans are n parentheses and square brackets, respectvely. Penson wealth s the present value (n 1992) of the household s clams to assets n DB and DC plans and the present value of any annutzed pensons, calculated from the self-reported penson nformaton n Wave 1 by Vent and Wse (2000). It does not nclude the value of any lump-sum dstrbutons that were rolled nto an IRA. Surprsngly, spenders had more current penson wealth than savers: about $8,900 and $4,200 more at the mean and medan, respectvely. However, these dfferences were not statstcally sgnfcant based on the p-values n columns (3) and (4). 9

13 A unque feature of the HRS s that respondents were asked permsson to lnk ther survey responses to admnstratve earnngs hstores and benefts records from the Socal Securty Admnstraton. Ths has allowed for the constructon of varous measures of Socal Securty wealth for each survey household. The measure used came from two sources. For ndvduals wth matched Socal Securty earnngs hstores, Socal Securty wealth came from the restrcted access Earnngs and Benefts Fle (EBF) for the 1992 HRS (Wave 1) from the Insttute for Socal Research at the Unversty of Mchgan. The calculaton of the Socal Securty Wealth n the EBF s descrbed n Mtchell, Olson, and Stenmeer (1996). For ndvduals wthout matched Socal Securty earnngs hstores, Socal Securty wealth was mputed usng self-reported nformaton on earnngs hstores n the 1992 and 1996 HRS (waves 1 and 3) followng the method n Gustman and Stenmeer (1999). Spenders have about $15,000 and $24,000 less n Socal Securty wealth than savers at the mean and medan, respectvely. Both dfferences are statstcally sgnfcant. However, when retrement resources are measured as the sum of current penson and Socal Securty wealth, there s no statstcally sgnfcant dfference between the groups. The dfferences n mean and medan non-housng wealth are large, about $60,000 and $13,000, respectvely, and statstcally sgnfcant. In contrast, the two groups look smlar n terms of housng wealth. The dfferences n housng wealth are statstcally sgnfcant (at around the 10 percent level of sgnfcance) but economcally small. The last measure n panel A s total wealth, defned as the sum of Socal Securty, penson, non-housng, and housng wealth. Overall, spenders are substantally less wealthy than savers. Even at the medan, households that spent dstrbutons have almost $63,000 less n wealth than households that saved dstrbutons. Panel B compares the lfetme earnngs of the two groups measured by the Socal Securty Average Indexed Monthly Earnngs (AIME). Households that spent dstrbutons had lower AIME by $232 and $290 per month, or $2,784 and $3,480 per year, at the mean and 10

14 medan, respectvely. These dfferences are statstcally sgnfcant and economcally mportant. The analyss n Table 2 suggests that savers were wealther than spenders n However, there may be other factors that account for ths relatonshp and confound ths result. To account for these potental factors, the analyss s expanded to a multvarate framework. Specfcally, let W be a measure of household wealth n 1992, then standard lfe-cycle models of consumpton and savng (e.g., Brownng and Lusard 1996) mply that W Permanent = f ( Y, X ), (1) or that wealth s a functon of permanent ncome, The econometrc specfcaton chosen was Permanent Y, and demographc characterstcs, X. W = β X + γ δ Spent 1 AIME + γ 2 AIME + γ 3 AIME + D u, (2) whch s consstent wth (1), and lnear n the parameters β, γ 1, γ 2, γ 3, and δ. Here, permanent ncome, Y Permanent, s modeled flexbly as a cubc functon of lfetme earnngs as measured by the Socal Securty Average Indexed Monthly Earnngs (AIME), taken from the restrcted-access data. 8 The vector of demographcs ncludes the standard controls for head s and spouse s age, educaton, race, relgon, and health status, respectvely, that have been shown to explan wealth n the prevous lterature. 9 Descrptve statstcs for all varables are gven n Appendx B. The key varable n the model s Spent D, a dummy varable that s 1 f the household spent any dstrbuton and 0 otherwse. If spenders currently are less wealthy than savers, condtonal on permanent ncome and demographcs, then δ < 0. Table 3 presents parameter estmates from equaton (2) usng a number of dfferent measures of wealth as the dependent varable, W. The t-statstcs are shown n parentheses. Column (1) uses the sum of penson, IRA, Keogh, and Socal Securty wealth as the dependent varable. The least squares estmates n column (1) mply that condtonal on permanent ncome and demographcs, spenders have $23,444 less of ths broad measure of penson (publc and 11

15 prvate) wealth than savers on average, and ths dfference s statstcally sgnfcant. 10 To see the lnk between Tables 2 and 3, note that panel A of Table 2 showed that the uncondtonal mean penson, IRA, Keogh, and Socal Securty wealth of spenders was $257,148 and that of savers was $296,033. Ths mpled a dfference of $38,885 (=296, ,148) between the groups. But from column (1) of Table 3, the condtonal mean dfference between the groups was $23,444. Thus, the condtonal mean dfference (of $23,444) s 60 percent of the uncondtonal mean dfference between the groups (of $38,885), so that controllng for the other factors n the multvarate analyss cuts down the dfference n wealth holdngs between the two groups by 40 percent. Because the dstrbuton of total wealth and ts components are hghly rght-skewed, such that the mean greatly exceeds the medan, column (2) presents parameter estmates based on medan regresson, as n standard n the lterature. 11 Condtonal on permanent ncome and demographcs, spenders had $7,936 less than savers, but ths dfference was not statstcally sgnfcant. The dfference n the uncondtonal medans from Table 2 was $24,725, so that, agan, controllng for the addtonal factors substantally reduced the between group dfferences n wealth holdngs. Columns (3) through 6 n Table 3 repeat the analyss n columns (1) and 2, but wth other non-housng and total wealth as the dependent varables, respectvely. The pattern of the results s smlar. Spenders are less wealthy than savers, even controllng for permanent ncome and demographcs. However, the magntudes of these dfferences are much less than those n Table 2. The analyss n Tables 2 and 3 was based on data from Wave 1 (1992) of the HRS, when the households were between the ages of 51 and 61. Many of the relatvely younger households n ths sample (say, n ther early 50s) may have 10 to 15 years left n the labor force before retrement. Hence, one could argue that even though spenders may be less wealthy than savers n 12

16 1992, spenders may expect to make up that dfference by the tme of retrement, and, ndeed, they have adequate tme to do so. Tables 4 and 5 explore ths hypothess. Frst, one way n whch spenders may compensate for the lower wealth levels found n Tables 2 and 3 s to work longer. In Wave 1 (1992) of the HRS, respondents were asked questons about ther expectatons about retrement (n secton K of the questonnare). 12 Specfcally, respondents were asked about when they expected to retre. 13 The queston sought to elct a specfc calendar year or age, although some ndvduals responded they would never retre. Based on the responses to ths queston, the followng econometrc model was estmated ExpectedYears of Work = β X α W 1 + γ 1 AllPenson AIME + α 2 + γ W 2 AIME 2 + γ OtherNon Housng 3 AIME + α W δd Housng Spent + u + (3) where expected years of work are a functon of the same varables n equaton (2), namely permanent ncome and demographcs, as well as all penson wealth (measured as the sum of penson, IRA, Keogh, and Socal Securty wealth), housng wealth, and other non-housng wealth. The sum of these three wealth measures comprses total household wealth. If spenders ntended to work longer, then, condtonal on permanent ncome, demographcs, and current wealth, δ > 0. Parameter estmates for ths model are shown n the frst two columns of Table 4. The dependent varable measures the expected number of years of work remanng untl retrement. Obvously, ths number cannot be less than zero. In addton, ndvduals n 478 of the 1,230 households n the sub-sample ndcated they would never retre. Because there s no way to know when these ndvduals actually wll retre, the dependent varable n column (1) was coded so that these ndvduals would retre n calendar year Ths means that these ndvduals (who were 51 to 61 n 1992) would work untl they were 88 to 98 years old. Therefore, the dependent varable s lmted, so that the parameters were estmated usng the 2-lmt Tobt maxmum lkelhood estmator. The parameter estmates n column (1) ndcate that condtonal 13

17 on permanent ncome, demographcs, and current wealth, spenders do not ntend to work longer than savers. However, the codng of those who would never retre to retre n calendar year 2029 was somewhat arbtrary and probably hghly unrealstc. Therefore, n column (2), I excluded those households wth ndvduals that sad they would never retre and re-estmated the parameters n equaton (3). Now, condtonal on permanent ncome, demographcs, and current wealth, spenders expect to work 0.78 of a year (or about nne months) longer than savers. Ths effect s statstcally sgnfcant. Second, respondents were asked about whether they expected ther standard of lvng (relatve to that n 1992) to change upon retrement. 14 Based on the responses to ths queston, an ordnal ndex of the expected change n lvng standard at retrement was constructed (ths s descrbed n Appendx A) and ths was used as the dependent varable n the followng econometrc model Index of Change n Lvng Standards = β X δd 3 Spent α W + γ 1 + α W Housng AIME 1 + u AllPenson, + γ 2 AIME + α 2 W 2 + γ 3 AIME OtherNon Housng (4) where the explanatory varables are the same as n equaton (3). A hgher level of the ndex means a greater expected ncrease n lvng standards. If spenders ntend to catch up to savers by retrement, then, condtonal on permanent ncome, demographcs, and current wealth, δ > 0. The parameter estmates for ths model are shown n column (3) of Table 4. Because the dependent varable s ordnal, the ordered probt maxmum lkelhood estmator was used. 15 The estmates n ndcate that, condtonal on permanent ncome, demographcs, and current wealth, spenders do not expect to have a dfferentally greater ncrease n lvng standards at retrement than savers. Thrd, another way n whch spenders may compensate for the lower wealth levels found n Tables 2 and 3 s to accumulate more savngs n the tme remanng untl retrement. 14

18 Specfcally, respondents were asked about how much they expected to have accumulated n savngs by the tme of retrement. 16 Ths was used as the dependent varable n the followng econometrc model Expected Savngs = β X δd + γ Spent 1 AIME + α W 1 + γ 2 AllPenson AIME + α 2 2 W + γ 3 AIME 3 OtherNon Housn g + + α W 3 Housng + u, (5) where the explanatory varables are the same as n equaton (3) and the dependent varable s measured n 1992 dollars. If spenders ntend to catch up to savers by retrement, then, condtonal on permanent ncome, demographcs, and current wealth, δ > 0. Ordnary least squares parameter estmates for ths model are shown n column (4) of Table 4. The estmates ndcate that, condtonal on permanent ncome, demographcs, and current wealth, spenders expected to have accumulated $8,509 more savngs at retrement than spenders, but ths s not statstcally sgnfcant. Because the dstrbuton of savngs s hghly rght-skewed, such that the mean greatly exceeds the medan, column (5) presents parameter estmates based on medan regresson. 17 Now, condtonal on permanent ncome, demographcs, and current wealth, spenders expected to have accumulated $3,545 less than savers before retrement, but, agan, ths dfference was not statstcally sgnfcant. The results n Tables 2 and 3 suggest that spenders are less wealthy than savers, and those n Table 4 ndcate that spenders dd not ntend to make up ths dfference by the tme of retrement by savng more. There s at least some evdence that suggest spenders may have ntended to work longer. Importantly, because the decsons to spend, save, and work are lkely functons of many unobserved household characterstcs, many of whch also affect savng behavor, the specfcatons n equatons (2) through (5) have some potentally crtcal endogenety ssues. Consequently, these results cannot be vewed as causal, but rather as speculatve. Vewed n the best lght, they are suggestve that there mght be dfferences n wealth between spenders and savers, and that those are lkely to persst nto retrement

19 Snce the orgnal verson of ths paper, subsequent Waves of the HRS (beyond Wave 1 n 1992) have been released for publc use. Even f spenders were less wealthy than savers and expected themselves to reman so as of 1992, one could use the longtudnal feature of the HRS to determne f ths actually transpred. Table 5 presents mean current wealth of households that ever spent a dstrbuton versus those that saved all dstrbutons for Wave 4 of the HRS, admnstered n 1998, and the most recent Wave for whch wealth data have been released for publc use. 19 The fgures are expressed n real 1992 dollars to facltate comparson wth Table 2 for 1992 (Wave 1). Standard devatons and medans are n parentheses and square brackets, respectvely. Unfortunately, penson wealth s not avalable for 1998, and the restrcted-access data agreement under whch ths research was conducted prohbts lnkng admnstratve earnngs hstores and benefts records from the Socal Securty Admnstraton to the HRS Wave 4 wealth data. Therefore, t was not possble to replcate all of the wealth measures from Table 2 n Table 5. Overall, Table 5 ndcates that even by 1998, when the households were 57 to 67 years old, spenders reman less wealthy than savers, although the statstcal sgnfcance of the between-group dfferences s somewhat weakened. 20 As n Table 2 for 1992, savers have economcally and statstcally sgnfcantly greater IRA and Keogh wealth than spenders n The dfference n mean non-housng wealth s large, almost $200,000, but the dfference n medans s only about $8,200, and not statstcally sgnfcant. The two groups contnue to look smlar n terms of housng wealth. The dfferences n housng wealth are economcally relatvely small, not statstcally sgnfcant at the mean, but statstcally sgnfcant at the medan. The last and broadest measure n Table 5 s total non-penson wealth, defned as the sum of IRA, Keogh, other non-housng, and housng wealth. Agan, spenders are substantally less wealthy than savers. Even at the medan, households that spent dstrbutons have about $52,000 less n wealth than households that saved dstrbutons. Therefore, t appears that the dfferences n wealth 16

20 between the two groups persst nto retrement. Spenders do not appear to catch up. Measurng Eroson How much more n retrement resources would households that spent dstrbutons have had had they rolled over ther dstrbutons? Eroson of retrement resources s measured by PVS, the household s present value of spent lump-sum dstrbutons. It s the amount of wealth that all spent lump-sum dstrbutons would have grown to today had they been rolled over to a taxqualfed plan and nvested rather than cashed out and spent. The present s Specfcally, for unmarred ndvduals n the sample, PVS was calculated as follows. Frst, for each past job wth a spent dstrbuton, the present nvestment value of that dstrbuton was calculated. Ths requred knowng the year and amount of the dstrbuton (gven n the HRS) and the perodc real rate of return. Based on hstorcal returns n Ibbotson Assocates (1997), annual real rates of return were calculated for three nvestment strateges: 100 percent nvestment n corporate bonds; 50 percent n corporate bonds and 50 percent n stocks; and, 100 percent n stocks. For marred couples, PVS was calculated for the ndvdual and spouse and then summed. Panel A n Table 6 gves the emprcal dstrbuton of PVS for the sub-sample of 659 households n the 1992 HRS that had a member who spent at least one pre-retrement lump-sum dstrbuton. The fgures n columns (1) through (3) reflect the three assumptons about the nvestment mx just outlned. The mean present value of spent lump-sum dstrbutons was $37,002 f nvested solely n bonds. Wth a hgher rsk-return nvestment strategy of 100 percent stocks, ths ncreased to $54,643. Lke other measures of wealth, PVS s rght-skewed, such that the mean greatly exceeds the medan. At the medan, PVS was $17,065 and $23,167 f nvested all n bonds and all n stocks, respectvely. A total of 69 percent of households n ths sub-sample had postve current penson wealth. The remanng 31 percent had none. The tabulatons n panel A are replcated for the two subgroups n panels B and C. Interestngly, the emprcal dstrbutons of PVS are qute smlar wthn subgroups. 17

21 Column (4) gves the emprcal dstrbuton of current penson wealth. In panel A, mean and medan current penson wealth were $96,173 and $22,853, respectvely. In addton, column (5) dsplays counterfactual penson wealth. Ths s sum of current penson wealth and the present value of spent dstrbutons wth an nvestment mx of 50 percent bonds and stocks, respectvely. It represents the penson wealth the household would have had currently had t not spent any past dstrbutons and nstead rolled them over. Mean and medan counterfactual penson wealth were $141,981 and $77,921, respectvely. 21 Measured n absolute terms, t s clear that penson wealth would have been sgnfcantly hgher for some households had dstrbutons been rolled over. For the households wth no current penson wealth (panel C), mean and medan penson wealth would have been $48,845 and $21,695, respectvely. Based on the 75th percentle, 25 percent of these households would have had $52,724 or more n penson wealth f the dstrbutons had been rolled over. The results n Tables 4 and 6 can be lnked to do an nterestng back-of-the-envelope calculaton. In column (2) of Table 4, t was estmated that spenders ntended to work 0.78 years (or about nne months) longer than savers. Mean and medan household ncome n 1992 for spenders were $46,628 and $38,700, respectvely. Therefore, an addtonal 0.78 years of work would brng an addtonal $36,370 and $30,186 n ncome at the mean and medan, respectvely. Even f all of ths addtonal ncome were saved for retrement, these two fgures would represent 79 percent (.e., 0.79 = 36,370/45,807) of the mean and 142 percent (.e., 1.42 = 30,186/21,125) of the medan present value of spent lump-sum dstrbutons from panel A of Table 6, under the assumpton of a 50 percent bonds and 50 percent stocks nvestment. Because t s hghly unrealstc that all of ths ncome wll be saved, t appears unlkely that the addtonal expected nne months of work wll be suffcent to make up for the lost penson wealth from spent dstrbutons. Next, to determne whether the absolute dollar amounts n Table 6 would have 18

22 supplemented actual retrement resources sgnfcantly, they should be compared to broader measures of household wealth. Therefore, the relatve mportance of eroson s measured as PVS, (6) W where the denomnator, W, s a measure of the household s retrement wealth. Panel A of Table 7 examnes PVS relatve to current penson wealth for the subgroup of households wth postve current penson wealth. The emprcal dstrbuton s qute dspersed. A szeable number of households spent dstrbutons that were very small relatve to current penson wealth. For example, based on the 25th percentle, 25 percent of these households would have ncreased ther penson wealth by between 7 and 9 percent or less f spent dstrbutons had been rolled over. In contrast, the medan household could have augmented ts penson wealth by between 25 and 37 percent. Fnally, based on the 75th percentle, 25 percent of these households would have ncreased ther current penson wealth by between 90 and 129 percent or more (.e., at least double). These fgures ndcate that spenders were a heterogeneous group. Some spent dstrbutons that were a trval fracton of ther lfetme penson accumulatons. Others consumed a very large porton of ther lfetme penson wealth. Panel B provdes tabulatons smlar to those n panel A, but for all households wth spent dstrbutons. Now, eroson s larger. For the medan household, spent dstrbutons represented between 77 and 110 percent of current penson wealth. In fact, for the 31 percent of ths sample wth no current penson wealth, (6) s undefned. Households n ths subgroup spent all of ther lfetme penson wealth. Because current penson wealth s not the only source of ncome n retrement, Table 8 compares PVS relatve to three broader measures of household wealth. The frst, n panel A, s the sum of current penson and Socal Securty wealth. Eroson s modest because spenders had sgnfcant Socal Securty wealth (as shown n Table 2). The medan household could have 19

23 ncreased ts retrement wealth by between 8 and 11 percent had t rolled over. However, for a small fracton of households, havng saved the dstrbuton would have sgnfcantly ncreased resources for retrement. For example, 25 percent of the households would have had between 24 and 32 percent or more n retrement wealth, and 10 percent would have had between 59 and 75 percent or more. Because households could have saved for retrement outsde of publc and prvate pensons, panel B uses the sum of Socal Securty, penson, and non-housng wealth as a measure of retrement wealth. Importantly, non-housng wealth ncludes IRA and Keogh wealth, whch could be sgnfcant sources of retrement ncome. By ths metrc, spent dstrbutons become less mportant. The medan household wth a spent dstrbuton could have ncreased ts retrement wealth by between 5 and 7 percent had t rolled over the dstrbutons. One-quarter of the households would have had between 15 and 21 percent or more n retrement wealth, and onetenth would have had between 38 and 51 percent or more. Fnally, because housng equty, n prncple, can provde resources for retrement, panel C uses total wealth (the sum of Socal Securty, penson, non-housng, and housng wealth) as a measure of retrement wealth. 22 By ths metrc, spent dstrbutons become even less mportant. The medan household wth a spent dstrbuton could have ncreased ts retrement wealth by between 4.5 and 6.4 percent had t rolled over the dstrbutons. One-quarter of the households would have had between 12.5 and 17 percent or more n retrement wealth, and one-tenth would have had between 28.6 and 41.2 percent or more. Overall, Table 8 suggests consumed dstrbutons dd not result n sgnfcant eroson of retrement resources broadly measured for the great majorty of households that spent ther dstrbutons. However, because of heterogenety among those that spent dstrbutons, there s a small group of households that could have rased ther retrement resources substantally (those n the 75th percentle and hgher n Table 8) had they rolled over. However, t should be 20

24 emphaszed that ths subgroup represents only 2.25 percent of all households age 51 to 61. Table 9 repeats the tabulatons n Table 8 by race and educaton categores for an nvestment mx of 50 percent bonds and stocks, respectvely. Measured n terms of current penson and Socal Securty wealth (panel A), there was lttle dfference n eroson by race. When wealth was measured more broadly, as n panels B and C, nonwhtes had slghtly greater eroson than whtes. For example, n panel B, columns (1) and 2, the medan whte household wth a spent dstrbuton could have mproved retrement resources (excludng housng) by 6.2 percent, whereas the medan nonwhte household could have mproved by 8.1 percent. Eroson rose wth educatonal attanment (columns (3) through (7)). For example, n panel A, the medan hgh-school-dropout household wth a spent dstrbuton could have mproved retrement resources by 6.6 percent compared to 12.5 percent for the medan bachelor s-degree household, and 20.2 percent for the medan more than college household. Eroson was greatest for the most educated. Conclusons There s lttle evdence from the HRS that pre-retrement lump-sum dstrbutons have caused sgnfcant leakage from the penson system. If spent lump-sum dstrbutons had been rolled over nto a tax-qualfed plan nstead, they would have represented n present value between 5 and 11 percent of penson and Socal Securty wealth for the medan household that spent a dstrbuton. However, one-quarter of the households that spent dstrbutons whch s 2.25 percent of all households age 51 to 61 could have ncreased ther penson and Socal Securty wealth by 25 percent or more had the dstrbutons been rolled over nto a tax-qualfed plan. Ths suggests that polces that enforce rollovers mght not rase the retrement ncome securty of the average Amercan household currently enterng retrement or that of the typcal household that spent a dstrbuton. 21

25 There s an mportant caveat to these fndngs. Ths study was based on a natonal sample of ndvduals 51 to 61 years old n These data have sgnfcant advantages over those used n prevous studes. However, the HRS respondents look more lke old-style workers. They are more lkely to have worked n manufacturng, have hgher rates of unonzaton, and greater coverage by defned beneft plans than the typcal workers of today. In fact, over one-half of all lump-sum dstrbutons receved by HRS ndvduals came from defned beneft plans. Therefore, resultng polcy statements are most accurately appled to ndvduals and households of roughly the same age. If younger ndvduals have lower propenstes toward savng, vew penson assets as less dedcated toward retrement, or have greater access to funds (say, through DC plans), then analyss from the HRS may underestmate the eroson to retrement ncome securty for younger cohorts. Fnally, the descrptve analyss found n ths paper s a crucal step n formulatng a model of the long-run mplcatons of lump-sum dstrbutons on the adequacy of retrement ncome benefts. Poterba (1996), Samwck and Sknner (1996), and Poterba, Vent, and Wse (1998a, 2001) have represented some recent attempts at descrbng the long-run mplcatons for retrement ncome benefts of the shft to DC plans, and 401(k)s n partcular, accountng for lump-sum dstrbutons. However, nether these prevous studes nor ths paper produced estmates of a behavoral model that would allow for long-run analyss of changes n penson polcy. Such a model should be the ultmate goal of ths lne of research. 22

26 Endnotes 1. Ths research was sponsored under Contract No. B by the U.S. Department of Labor. I thank Patrca Anderson, Alan Gustman, Tom Stenmeer, Steve Vent, and, especally, Davd McCarthy, Joe Pacentn, three referees and the edtor, Rosanne Altshuler, for helpful dscussons and comments. I thank Steve Vent and Tom Stenmeer for ther assstance wth the penson and Socal Securty wealth data used n ths study, respectvely. All analyss wth the HRS restrcted-access data was done under agreement n the Department of Economcs, Dartmouth College, and the Center for Polcy Research, Syracuse Unversty. All errors are my own. 2. Ths supplement was admnstered to approxmately 27,000 ndvduals n 1983, 1988, and 1993, respectvely. It asked detaled questons about employee benefts, ncludng pensons, pre-retrement lump-sum dstrbutons, and ther dsposton. Sabelhaus and Wener (1999) used IRS data. 3. The nformaton on lump-sum dstrbutons n the HRS s dscussed n detal n Appendx A of the current paper and n Poterba, Vent, and Wse (1998). A revew of the qualty of the wealth varables n the HRS can be found n Moon and Juster (1995) and Smth (1995). 4. Korczyk (1998) also used the 1992 HRS and confrmed these patterns. 5. Respondents that cashed out were also asked f they saved or nvested ther penson n an IRA. Those that ndcated so were ncluded n the IRA rollover category. It should be emphaszed that t was possble to have ndcated multple uses of dstrbutons. Specfcally, respondents who ndcated that part was saved/nvested and part was rolled over nto an IRA were coded by the HRS as havng saved/nvested. Hence, the percent of dspostons that remaned tax-sheltered n Table 1 s understated. 6. The All-Items Consumer Prce Index (CPI) was used as the prce deflator. 7. These data are descrbed n detal n Appendx A. Gustman, Mtchell, Samwck, and Stenmeer (1999) and Gustman and Stenmeer (1999) have provded comprehensve evaluatons of ths nformaton. 8. Carroll (2000) and Dynan, Sknner, and Zeldes (2000), among others, have found a nonlnear relatonshp between ncome and wealth n household data. Ths cubc specfcaton also s not nconsstent wth ther fndngs and models. 9. Informaton on age, race, relgon, and educaton for head (spouse) come from secton A of the HRS questonnare. Specfcally, race s measured by a dummy varable that s 1 f the head (spouse) s whte and 0 otherwse. Relgon s measured by two dummy varables. The frst s one f the head (spouse) s Catholc and 0 otherwse; the second s one f the head (spouse) s Jewsh and 0 otherwse. Health s based on self-reported health status from secton B of the HRS questonnare. Specfcally, the head (spouse) was asked (Queston B1) Would you say your health s excellent, very good, good, far, or poor? 23