Are Personal Retirement Accounts (PRAs) for You?


By Henry K. (Bud) Hebeler


President Bush is advocating that younger people should be able to invest in their own personal retirement accounts (PRA) as an alternative to Social Security. Whether these are for you depend largely on your age when you start saving as well as how large your Social Security benefit will be when you retire. The President has said that there will be no reduction in the benefits of those over age 55.

To evaluate the alternatives, I wrote a Microsoft Excel based program that is a free download from Of course, any projection of the future is highly dependent on investment growth before reaching retirement. Although the program allows you to use any mix of stocks, bonds, money markets and investment costs you choose, the conclusions that follow are based on using a mix of low-cost (0.3%) index funds with a 60% S&P 500 stock index fund and 40% long-term corporate bond index using returns consistent with the average of all 20 year rolling periods starting in 1926 until 2003. Results would be significantly better if the future would match the spectacular growth of the post 1948 period or disastrously worse if the future would match the devastating returns and inflation of the post 1965 period.

Relative to the retirement phase, this program allows you to compare what you would get from Social Security with four PRA alternatives: (1) a self-administered program where you select your own mix of stocks and bonds depending on your risk tolerance, (2) a fixed payment life-time annuity (which can have many of the characteristics of a fixed pension), (3) an inflation adjusted annuity (which can have many of the characteristics of Social Security), and (4) inflation protected savings bonds (I Bonds).

If current rates for annuities and I Bonds persist and if stocks and bonds behave as they have in the past, a low cost inflation protected annuity appears the best choice in those cases where the PRA has an advantage over Social Security. I used a recent quote for Vanguardís new inflation adjusted annuity which keeps payments up with inflation until inflation exceeds 10%. In order for a mix of stocks and bonds to be competitive, the stock allocation might have to be as high as 80% throughout retirement if investments are to support comparable incomes for the elderly who could live into their nineties. Even then, in a scenario such as for a person who retired in 1965, this high allocation would fall far short of the Vanguard inflation adjusted annuity. (See free program.)


The following table shows current quotes from the Quick Calculator on for three different current ages and current incomes of either $25,000 or $75,000 per year for those who would retire at age 67.

The President has suggested that the amount that could be deposited to PRAs would be the lesser of 4% of wages or $1,000 per year. For the cases above, this means that $1,000 would be the most that could be saved in any year. Further, the Social Security benefit would be reduced in proportion to the amount of tax paid. The $25,000 wage earner earnerís tax (including employerís contribution) would be 12.4% x $25,000, i.e., $3,100. The $75,000 wage earnerís tax would be $9,300. So the $25,000 wage earner would lose $1,000 / $3,100 = 32.3% and the $75,000 wage earner would lose 10.8% of the Social Security benefit.

Under these circumstances, the total cost-of-living-adjusted (COLA) annuity and Social Security annual payments would be as follows:

To find out whether PRAs plus reduced Social Security would be better than current Social Security quotes, we subtract the values in the first table from the second.

As you can see, PRAs are an advantage for those generally under 35 and also favor the higher income workers.

The above analysis did not consider survivor benefits. The current Social Security program offers great benefits for non working or very low wage earning spouses who depend on their higher wage earning spouse both for Social Security benefits while both are living, but also on the benefit after the higher wage income spouse dies. Even the 25 year old worker has trouble beating the current Social Security benefits when itís likely that a non working spouse will survive the wage earning spouse.

However, itís highly unlikely that the current projections for Social Security benefits will be valid for very young people. The only way the administration is going to be able to get younger people (who run the numbers on a program like that on to invest in PRAs is to forecast much lower Social Security benefits for them.

How much Social Security benefits must be reduced to make PRAs the more attractive alternative takes a highly personalized analysis unless the number is very large, e.g., future Social Security benefits are cut by 40%. Even then, any projection that involves estimating what annuities will cost or what retirement returns will be 40 plus years in the future would be very speculative compared with a perceived solid Social Security promise.