The article “The Real Reason People Fail To Save Enough For Retirement — And What You Can Do To Limit The Damage” was originally published on Financial Post on January 16, 2019.

Procrastination may not be the biggest impediment to saving enough

While there are conflicting opinions on whether Canadians are saving enough for retirement, there is no doubt Canadians are not saving like they used to save. In fact, the household saving rate in Canada just fell dramatically to 0.8 per cent in the third quarter of 2018 from 3.4 per cent in the previous quarter.

Our household saving rate since 1981 has averaged 7.3 per cent, and the annual saving rate has not gone negative since 1933. As interest rates continue to normalize and we enter our tenth year since the last recession, it may be that 2019 is an unprecedented year in the history of Canadian saving (or lack thereof).

A 2017 World Economic Forum (WEF) white paper suggested a saving rate of 10 to 15 per cent may be required to afford to live comfortably to age 100. Everyone’s required saving rate is different and depends upon their unique circumstances, so rules of thumb from the WEF or anyone else for that matter need to be taken with a grain of salt.

Perhaps as important as how much you need to save to retire is an understanding of the things that prevent people from saving enough in the first place — despite their best intentions.

Extensive research has been done to determine how best to nudge people to save more for retirement. Richard Thaler won the Nobel Prize in 2017 for his extensive contributions to behavioural economics, particularly how “nudging” people in the right direction can encourage them to avoid irrational (bad) choices. But are there factors beyond bad decision-making at play that may lead to saving shortfalls?

Both economics and retirement planning are prone to making assumptions that all factors remain constant, from the Latin, ceteris paribus, meaning “other things equal.” The problem with this type of linear thinking is that change is the only constant in life, particularly over a long enough time horizon.

A November 2018 National Bureau of Economic Research (NBER) working paper entitled “Saving Regret” sought to determine, retroactively, the main reasons why retirees between 60 and 80 did not save enough for retirement. The findings may prove insightful for those saving for retirement and their financial advisors.

Interestingly, the researchers found procrastination may not be the biggest impediment to saving enough, although it is obviously an avoidable risk. In fact, they found that it was the unavoidable, or at least, less avoidable risks that may be the real reason you may not save enough for retirement.

Sixty-six per cent of those with saving regret — retirees who wished they had saved more — identified a negative shock during their working years as a cause for a saving shortfall. This is not to say that those without saving regret did not have similar shocks during their lives, but the incidence of negative shocks was more than 50 per cent higher for regretful retirees. This suggests that once-or-twice-in-a-lifetime surprises may be more to blame than simply saving too little from each paycheque.

The primary negative shocks identified by the Saving Regret researchers included divorce, unemployment and health.

Direct health costs may be less of a risk for a Canadian saver than an American in this study given our universal health care system, but an indirect health cost for Canadians could include unemployment or underemployment if a health issue inhibits work. This emphasizes the importance of good disability insurance, a type of insurance coverage that is often overlooked.

According to RBC, only 48 per cent of Canadians have disability coverage through their workplace benefits. Of those without group insurance, only 16 per cent have private disability insurance coverage.

Divorce and unemployment are more difficult risks to insure against. A U.S. insurer called SafeGuard Guaranty Corporation was “formed for the sole purpose of developing and marketing the first Marriage Assurances policy in the world.” So, believe it or not, divorce insurance is a real thing.

Statutory notice and/or severance pay and Employment Insurance (EI) seek to soften the blow of a job loss. These safety nets are just temporary, and it may be the risk of lower-than-expected earnings over a prolonged period or a career cut short during prime earning years that could be more of an issue.

We tend to suffer from hindsight bias, and the assumption that recent history will continue to repeat itself. This bias can apply to investing, health, salary, or any past occurrence. The Saving Regret research suggests that a retirement savings plan should include a margin of error related to negative shocks and try to insure against them. Beyond disability insurance, mitigating unemployment and divorce may be less simple for savers.

Unemployment risk management can include an emergency fund — whether cash or an unused low interest rate line of credit. A retirement plan should probably also be based upon an early retirement, just in case a career is cut short due to unforeseen circumstances. Then working longer into one’s 60s or 70s is a choice rather than a necessity.

Canadian government pensions may just be a starting point for some Canadians to fund their retirement, especially those with higher incomes whose replacement ratio will be that much lower from Canada Pension Plan (CPP) and Old Age Security (OAS) alone. Defined benefit (DB) pensions are becoming less prevalent, so this means all Canadians saving for retirement are becoming more reliant on their own proactive saving.

While some of us may experience positive financial shocks over our working years, spending the surprises is much easier than overcoming the deficiencies. Even Richard Thaler’s response to his US$1-million-plus Nobel Prize win was to “try to spend it as irrationally as possible!”

The most rational way to plan for retirement may therefore be to plan for the worst, hope for the best, and insure against the risks that you can. If you are lucky enough to avoid unforeseen financial shocks like unemployment, health problems, or divorce, you can retire young, spend more in retirement, or give more away to your children or charity.

Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.