How will your spending change over time in retirement? Will you spend more, about the same, or less in retirement as you did in your working years?
It’s an important question. Retirement planning starts with figuring out how much you’ll spend in retirement. And that determines when you’ll retire, and how much you’ll need to accumulate to your desired lifestyle, and when you’ll take Social Security, and so on.
As a rough cut, you’re told to plan on spending 70% to 80% of your pre-retirement income per year in retirement. It might be a good start but experts mostly regard it as rubbish.
If you want to do it right, you’ll need to use a spreadsheet or some other tool to estimate what you’ll spend on what and when and for how long. You’ll also need to factor in not just inflation but also how your spending will change over the course of your retirement – through the go-go, slow-go, and no-go years.
Plus, from TheStreet’s Retirement Daily:
Thankfully there’s research that can help you examine how spending changes over the course of retirement. And much of the research published on the subject suggests that your spending will decline over the course of your retirement.
Retirement expert David Blanchett, when he was with Morningstar, (MORN) – Get Morningstar, Inc. Report published Estimating the True Cost of Retirement, a study that found real retiree spending decreases slowly in the early years, more rapidly in the middle years, and then less slowly in the final years, in a path that looks less like a slow and steady decline and more like a “retirement spending smile” instead. Read Estimating Changes In Retirement Expenditures And The Retirement Spending Smile.
Most recently, a study published by the Center for Retirement Research at Boston College, Do Retirees Want Constant, Increasing, or Decreasing Consumption?, confirms that spending does, in fact, decline in retirement but that constraints – such as assets and health – as opposed to true preferences matter. For instance, the study found the following:
- On average, household consumption declines 1.5%-1.6% every two years (or about 0.7% – 0.8% a year) over retirement.
- However, consumption for wealthy and healthy households is virtually flat, declining only 0.3% a year over their retirement.
- Thus, at least in part, wealth and health constraints help explain the observed pattern of declining consumption.
And the policy implications, according to the researchers, are:
- Retirees likely prefer to enjoy constant consumption in retirement.
- The results suggest that a retirement saving shortfall exists since consumption declines are larger for households without assets.
- Social Security is an important resource for maintaining their preferred consumption.
To be sure, many questions remain, the researchers said. Does spending, for instance, continue to get flatter for the top quintile or decile household; do survival expectations matter; and do other factors such as risk aversion or bequest motives determine consumption paths.
So, what do other experts say in reaction to the Center for Retirement Research report?
Sharon Carson, the executive director of the retirement strategist team at J.P. Morgan Asset Management, agrees that lack of savings for many is problematic and may lead to unwanted spending declines. (Carson estimated that the median wealth level in the study was $271,248.)
Carson doesn’t, however, believe that all households want constant spending, especially at higher wealth levels. She noted, for instance, that the top third of the participants the authors of the Center for Retirement Research report looked at may not be representative of those with significant assets. And given that, she agreed that additional study of different wealth levels would be helpful.
How does the Center for Retirement Research at Boston College research compare to that done by Carson and her team, especially at higher wealth levels?
Using anonymous and de-identified JPMorgan Chase Bank (JPM) – Get JPMorgan Chase & Co. Report data at a point in time, Carson’s team sees evidence of higher spending peaking around midlife for Chase households.
“If we look at households with at least some retirement income – including households with a mix of work and retirement income- the peak spending at midlife is not as dramatic as it is for the total population including those with income from work, but we still see those as peak spending years – in the 40s and 50s,” she said. “This holds true for households with estimated non-housing wealth of $250,000 – $750,000.”
For instance, average household spending for those with a bachelor’s degree or higher starts $88,890 for those ages 45-54, and declines to $81,010 for those 55-64, then to $69,990 for those 65-74, and then to $55,970 for those 75-plus, according J.P. Morgan Asset Management Research.
Carson also noted that JPMorgan is in a unique position: It has a large database with households that include a significant number of households with over $1 million in estimated non-housing wealth. And what they see with those households is this: “A larger peak in spending at middle age for those households with $1 million or more in non-housing wealth than for households with less than $1 million.”
So, what’s the bottom line if you’re trying to get a handle on what your spending in retirement will look like?
Well, if you’ve saved enough for retirement your spending is likely to decline modestly — by choice — over the course of retirement. But if you haven’t saved enough and/or you’re in poor health your spending will decline less modestly. And if you want to avoid that, now would be a good time to save more and perhaps delay retirement.
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