Are You Underspending in Retirement? (Week 10)

 

 

Cliffhanger Hole #2

The media frequently talks about how little many people have saved for retirement.  This often leads to headlines such as “ (Addressing the Nation's Retirement Crisis).” Since I tend to be curious about such things, over the years I’ve asked numerous financial advisors if any of their clients are likely to experience such a crisis.  Every one of them has given me the same answer – “No.”  Granted that a financial advisor’s practice is going to be naturally skewed to those with relatively high amount of savings.  Still, it seems likely to me that at least some of their clients run the risk of running out of money.  When I asked this follow up question, I almost always got the same answer.  When uncertainty begins to creep into their retirement plan, their clients had demonstrated an amazing ability and willingness to reduce their spending.  Retirees understand that they don’t know how long they will live, what returns they will have on their savings and what unexpected expenses they will incur.  Therefore, no one can tell them with certainty how much they will need.  The solution many of them have settled upon is both simple and sensible.  If I retire with $1 million in savings, as long as I maintain that amount, I know I won’t run out of money.  Therefore, I’ll tap into those savings for additional retirement income only if I’m comfortable above that amount.  If the stock market causes my balance to fall below that $1 million or I have an unexpected expense, I just reduce my spending and let my retirement balance grow back to my $1 million threshold.

As sensible as this plan is, it flies in the face of the standard 4% withdrawal rate rule.  This rule states that if you can take 4% of your account each year without fear of running out of money before you die.  But in real life, very few retirees do this.  In fact, a New York Life/Morning Consult study found that only 16% of retirees take regular systematic withdrawals from their retirement savings.  A full 30% take nothing at all.  The rest just take money as they need it.  This approach leads to many retirees actually underspend in retirement.  While they continue to worry about running out of money, their retirement accounts just continue to grow.  David Blanchett and Michael Finke have referred to this as the “retirement consumption puzzle.”  In their recent study, they found that while retirees feel free to spend 80% of the guaranteed income they get from social security, pensions and annuities, they only spend 50% of the income they earn on their retirement accounts (RP-30_BlanchettFinke_v3.pdf). 

I thought about these statistics this week when my wife and I spent the Labor Day weekend at Big Cedar Lodge outside of Branson, MO.  If you haven’t been to this golf, boating and entertainment mecca, you definitely need to put it on your list.  For you golfers out there, there is a reason that USA Today named Big Cedar the #1 golf resort in the country.  At first blush, the cost of the 18-hole par 3 Cliffhanger course seemed excessive.  Is this really something we should be spending our retirement income on?  Especially when they made us sign a waiver that said that not only could we not sue them if we drove our cart over a cliff, but we would be responsible for the cost of the cart.  By the 3^rd hole – one that required us to hit our tee shot through an opening of a water fall to a green 140 yards away, we had little doubt that this was the very type of experience we want to enjoy in retirement.  It certainly didn’t hurt that the Blue Angels were performing out of the local airport just 3 miles away and therefore kept flying over us as we were trying to concentrate on our next shot. 

I felt comfortable splurging this weekend because I trust the math of the 4% rule.  More importantly, the income I will get from my annuities in a few years gives me the peace of mind to know that we will be able to cover most of our expected expenses even if something catastrophic blows up the 4% rule.  But there is another aspect to this as well.  One of my high school friends died this week at the age of 64.  Last year an industry colleague died unexpectedly at the age of just 61.  The uncertainty of how long we will live works both ways.  We all know someone who died before they had a chance begin checking items off of their bucket list.  Even if we make it beyond our life expectancy, there will come a time in our life where we just won’t be able to physically do some activities.  I’m more than happy to spend a bit more today on some of these life experiences even if it means I will have to spend a little less later.