As people transition into retirement or semi-retirement, they often wonder how much they can safely spend without running out of money. Although no one can predict exactly how much they will spend 30 years from now, creating a projection is essential for planning. On average, retirees tend to spend less as they age. Here’s how you can incorporate this trend into your retirement planning.
Retirement Spending Research
In 2016, the C.D. Howe Institute published a report titled “How Spending Declines with Age, and the Implications for Workplace Pensions” by Frederick Vettese. While the report focused on pension plans, its insights on the spending habits of retirees are valuable for retirement planning.
The report reviewed various studies that examined inflation-adjusted spending declines with age in four countries: the United States, Germany, the United Kingdom, and Canada. These studies spanned different decades and showed that spending declines were related to aging, not a lack of financial assets.
Based on data from all four countries, the report provided the following approximate annual decline rates:
| Age Range | Annual Decline |
|---|---|
| 65-69 | 1.25% |
| 70-79 | 1.75% |
| 80+ | 2.75% |
Source: “How Spending Declines with Age, and the Implications for Workplace Pensions” by Frederick Vettese
Other Studies
Another study by David Blanchett, Head of Retirement Planning at Morningstar, titled “Estimating the True Cost of Retirement,” found that real spending decreases as retirees age, with a notable increase near the end due to medical expenses. Blanchett termed this pattern the “retirement smile.”
Additionally, the Center for Retirement Research at Boston College published a paper called “The Retirement Consumption Conundrum: Evidence from a Consumption Survey,” suggesting that retirement spending declines by about 1% per year.
Creating an Initial Retirement Income Plan
In a previous article, “The Three Stages of Retirement Spending,” I outlined a way to view retirement in three stages.
Active Years
These are your most active years, typically the first 10-15 years of retirement, when you are still healthy and can pursue your desired activities.
Transition Years
During these years you begin to slow down, and your spending decreases along with your activities.
Maintenance Years
These years are characterized by staying closer to home with fewer activities, often due to age and health. This period may also involve increased healthcare expenses for at-home care or moving into a retirement facility.
Life Span vs. Health Span
The transition from one stage to another depends on your health span: how long you remain healthy both mentally and physically. The current CFP® guidelines suggest that planners should plan for couples to live until age 98 if they are 65 now. The closer your health span is to your lifespan, the happier you will be. This involves a combination of luck and effort to stay mentally and physically fit.
Implications for Real-Life Planning
When projecting your retirement, you could divide your spending into the three stages. Consider spending more during the Active Years, then reduce spending by 10% (adjusted for inflation) as you enter the Transition Years, and again by another 10% when you start the Maintenance Years. This approach can create a more realistic plan.
A wild card in this plan is healthcare costs, which may increase during the Maintenance Stage. One or both spouses might need extra care at home or in a retirement facility. Additionally, overall spending may decline after the first spouse passes away. Depending on your net worth, you might need to consider Home Equity Release Strategies in your planning to fund extra healthcare.
The value of ongoing planning is that you can adjust and adapt your strategy based on actual spending and cash flow requirements over time. The initial planning process provides direction, and adjustments along the way keep you on track.
When planning your retirement, consider front-loading your expenses during the Active Years, knowing that you will likely spend less as you age. This approach, combined with regular reviews and adjustments, can help ensure a financially secure retirement.
What To Do Next
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For more information, refer to Preserving Wealth: The Next Generation – The definitive guide to protecting, investing, and transferring Wealth by Jack Lumsden, MBA, CFP® or schedule a call with Jack at 905-332-4403
Jack Lumsden is a Financial Advisor with Assante Financial Management Ltd. The opinions expressed are those of the author and not necessarily those of Assante Financial Management Ltd. Please contact him at 905.332.5503 or visit www.jacklumsden.com to discuss your circumstances before acting on the information above.
