This year has been the year of bad news, with the novel coronavirus causing a public health disaster and a recession. Sadly, there's one more piece of bad news to contend with: COVID-19 is probably going to have far-reaching financial effects and could leave you with less income as a retiree.
In fact, according to a recent report from The New School, middle-income Americans are facing a higher risk of unemployment during this recession, a greater likelihood of their investments performing poorly, and an increased chance of leakage from their retirement accounts. The combined effect of all this economic trouble will likely leave them much less prepared for retirement.
COVID-19 could cut your income by a surprising amount
According to The New School's estimates, typical middle-income workers were expected to be able to replace around 62% of pre-retirement income in their later years if they retired at the age of 65. This rate is below what most experts recommend, which is about 70% or more of pre-retirement funds. But it's not off by much.
Thanks to the adverse effects of COVID-19 and the resulting 2020 recession, however, the replacement rate for middle-income earners is expected to fall 10 percentage points. The typical middle-class American is now on track to replace about 52% of pre-retirement income. For a household with $100,000 in earnings right now, that would mean their expected retirement income would fall from $62,000 in their later years to $52,000.
Higher unemployment, a greater likelihood of being forced to borrow or withdraw from retirement accounts, and an increased likelihood of stock market losses account for this drop. And while 10% may not seem like much, it can be the difference between being able to comfortably afford the necessities and having to struggle as a senior.
How can you avoid this big drop in your replacement income?
If you don't want to find yourself with less income in retirement, there are steps you can take to counteract the effects of the recession.
If you do lose your job because of COVID-19, working a few extra years could help you avoid a reduction in Social Security benefits that could result from lower average wages being used to determine your benefit. And if you had to pause your retirement savings during your period of unemployment, extra years on the job give you time to bulk up your investment accounts and would mean your savings don't have to support you for as long.
Making sure your investment portfolio is appropriately diversified, investing for the long term, and ensuring you're exposed to the right level of risk can help minimize the potential for investment losses that The New School warned could reduce income available to you in retirement.
And you should aim to avoid borrowing or withdrawing from your retirement accounts if at all possible, even though the CARES Act has made doing so easier. Instead, if you can manage, leave your money invested, keep contributing throughout the recession, and consider increasing the amount you invest to take advantage of buying opportunities if the market crashes again.
While the typical middle-income earner may see their retirement income drop because of COVID-19 as the New School's research suggests, this doesn't have to be your fate.