Spending in Retirement

Spending in retirement is a huge question everyone wants to know the answer to, right? Actually, this question can take a variety of forms. Will I have enough to make it through retirement? How much can I spend in retirement? What’s my target nest egg so I can actually retire? 

A few other factors include inflation, healthcare expenses, Social Security, and longevity. Oh, and we certainly can’t forget assumptions about what the market will do.   

You may be thinking I am going to try and answer this question. You would be wrong. Sorry about that. Feel free to jump away now if you want. Instead, I want to focus on what studies show us about spending trends in retirement, as this is the most important factor to me. 

If you know me, you’ve heard me focus on your spending number. If you have a good estimate of how much you spend we can start calculating the rest to answer the question of how much you can spend in retirement. This then tells us how much you need to have saved. It’s kind of a chicken-egg argument, but I fall into the camp of know your spending number above all else.

I was reminded of this concept recently as I came across a bunch of articles on spending trends in retirement. And the findings reminded me of the one and only psychology class I ever took in school. 

The only thing I remember in that 10001 Intro to Psych class was the reverse bell curve. The professor used it to tell all 300+ students in that class how our parents were probably happy we were off at college. The curve was based on happiness levels for couples. It was highest when first married and then when kids turned 18. When she threw it up on the screen for our massive class it was an obvious reverse bell curve, which is basically a big U. She may have even referred to it as a smile, which is what retirement spending looks like. 

Again, if you have talked to me at any length, you may have heard me mention how spending trends in retirement typically go like this. Stay the same or slightly increase initially at retirement. It can be from things like paying off big bills, doing a big project or two around the house, or finally taking some big trips you always wanted to. After some time this spending number then starts dropping. No more big projects or bills and maybe you either have done all the big trips you wanted or you just can’t travel like you want. Spending then drops in the middle of your retirement. Unfortunately, as you get older your spending goes back up, but not on the fun stuff. No, expenses increase due to healthcare costs. If you were to graph this it would look like a reverse bell curve or smile. 

I think now is a good time to share some specific findings from various studies over the years. And no, I am not going to share anything to try and scare you into buying an annuity or some other high-commission product. I have no insurance license and I don’t sell commissionable products, so you are safe from a sales pitch😉 With that, let’s get to it. Oh, I am not going to source the findings. If you want the original articles just shoot me an email. 

• Expenditures on food expenses drop from 4% to 8% in retirement. Sadly, this study was from about 15 years ago so the data isn’t in a high-inflation environment like now, but reflective of a more “normal” inflationary situation. 

• Food consumption is actually a narrow part of spending in retirement so it’s important to look at overall consumption spending. The trend here is similar to what I mentioned before. Overall consumption stays steady initially in retirement and then begins to decline. The high-level summary of this study is spending declines about 1% annually through retirement. 

• One study showed that for every 5 years in retirement, spending declines 15%. The findings show someone in their late 70s may actually be spending half of what those in their late 50s were spending. How is that for eye-opening? 

• Another study, which is both better and worse with the available data, included real change numbers. This means it is inflation-adjusted. This study is where you really see the smile in retiree spending numbers. Spending decreases roughly 1% annually the first decade of retirement, 2% a year the next decade, and then another 1% decrease annually the final decade. Adjusting for inflation, spending was almost normal but less than inflation. Unfortunately, this study had a rather limited sample size. 

• Fortunately, some studies looked at spending by category. Their findings are not surprising. Spending on things like life insurance, vehicles, clothing and even housing drop. Less surprising is expenses for healthcare increase. This is consistent even with higher net worth households. 

• There are a couple of nice findings with healthcare spending in retirement. First, at the high end it is roughly 15-20% of the overall spending. However, even with this taking up a larger part of the overall spending numbers, the increase in healthcare expenses does not outstrip the decline in spending in other areas, such as travel. This is a point I stress with clients. You may be spending more in healthcare, but odds are you won’t be traveling or eating out like you did. 

• I guess my previous point is a reminder to stay calm when you see the annual reports from places like Fidelity on healthcare expenses. Yeah, you may spend $250,000 in healthcare for a couple of retirees, but data shows that $250,000 actually just replaces other spending and not add onto it. 

This seems like a good spot to stop as I think I’ve thrown enough findings your way. There are two things I want to stress and I bet you can guess them. 

First, know your spending. If you don’t know it, take a little bit of time to start figuring it out. The easiest way to get a high-level picture is to look at bank statements. Many banks and credit card companies are nice enough to create annual reports of your spending. Take advantage of them doing this work. 

Next point, take a breath and look at the whole picture. The financial services industry likes to scare us by isolating healthcare expenses in retirement. They neglect to mention how increases here are not enough to make up for decreased spending elsewhere. Don’t let that prevent you from taking the bucket-list vacation as soon as you retire. Once you run the analysis with your CFP® it may still make sense for you to take that trip. Just be sure to send me a postcard!

I’m Dan Johnson, CFP®, founder of Forward Thinking Wealth Management. I run a flat-fee financial planning and investment management firm located in beautiful Akron, OH. Although I am in Akron, OH, I work with clients regardless of location. I cater to owners of equity compensation positions who are looking to organize their financial lives, keep more of what they make, and do the things they want in retirement and even now.