The most important thing to focus on when in retirement is the sustainability of your current spending levels. If you fail to pay enough attention to this, you will overspend your savings and you may not have enough income to support a comfortable lifestyle if that does occur.
When looking to save enough for retirement, it is very important to project your income needs in retirement properly, to seek to ensure that you are deferring enough spending in the present to support your future needs properly.
This is the part where most of the mistakes that people make are made, and many succumb to the lust of spending in the present, where it becomes easier to support these decisions when you don’t give enough weight to your future needs.
People discount the future at various rates, meaning that a dollar in retirement is going to be seen as less valuable than a dollar now, but we also need to take account for the weight of that dollar in retirement and we don’t want to discount future dollars too much.
A good example of this would be your trading in your present car, which works just fine and takes care of your practical needs, for a luxury car which will cost you more money. While it’s true that you will get some extra enjoyment by driving the nicer car, this may mean that in retirement you may not be able to afford a car at all.
So now you’re taking the bus in retirement, instead of driving a good car, where you traded a little more enjoyment now for a lot less later on. So there are competing objectives here, the discounting of future money and the higher value of the money in the future.
It may just be that we’re looking to replace our older car which still works fine with a newer one of the same model and price, when we may not really need to, although this will also involve greater costs typically and also robs from the future for the sake of the present.
This is just one example of course of the many choices that people must make as far as their present spending goes, and often times, our being conditioned to overspend will have us not questioning these spending practices as much as we should.
Our spending must always be carefully examined and considered though, not just in retirement but at every step leading up to it, if having enough income throughout our lifetime is a goal.
Diminishing Marginal Utility Needs To Be Properly Accounted For
There are a few reasons why people may want to discount future money, and one of them is that they may not be alive at a certain point in time to enjoy it. This is a valid reason, although to be prepared for retirement, we are going to assume that we are going to live to a certain age, and then strive to prepare ourselves financially for this lifespan.
While we’re never sure how long we will live, and certainly might die long before our retirement savings are spent, the idea here is to allow for us to live with a certain level of comfort should we live as long as we are projecting and planning for.
Once we decide what age we will plan for, if it’s 85 or 90 or 95 or whatever, we can’t really afford to discount future income within that timeframe, and properly seek to achieve these goals at the same time.
The reason why the money may be worth more in the future is because at that time, when our income is less, an additional dollar is going to be worth more than it is now. This will always be the case if income is reduced.
If our current income is $4000 a month, where we need $3000 and the rest is discretionary, and we’re looking to decide what to do with the extra $1000 a month that we can either spend or save, we’re going to get a certain amount of utility from spending it now.
We then need to compare this with what an extra $1000 would do for us, if our income drops to $2000 a month in retirement, we’re going to have a shortfall of $1000 to meet our needs. This extra $1000 is going to be more impactful then than it is now, from blowing it now rather than using it to meet our normal expenses then.
In some cases this might come down to missing out on the essentials, where it will hurt more than to be deprived of what we need than it would feel good now spending the money on something we merely want.
This is where the principal of marginal utility comes in, meaning that the more you have, the less additional money is worth, and the less you have, the more it is worth. In the future, you will have less, so the money will be worth more than it is now, and this is why we want to save more of it.
How This Applies in Retirement
When you reach the point where you retire and your income drops, you still need to pay attention to this principal of diminishing marginal utility, and perhaps pay attention to it even more. This is the case whether you have sufficient savings for retirement, don’t have enough, or even if you haven’t managed to save for retirement at all.
What we’re looking to avoid is spending on something now and having that deprive us of the ability to spend it on something more important later. An obvious example of this would be to spend money on a trip where this eventually leads to not being able to buy enough food in the future, or giving money to your children that you will need later more than they need it now.
It might be that the children may be in a worse position and the money could therefore have more value to them than it would to you in the future, so it’s not that you don’t want to do these things, but they must be carefully considered.
What does need to always be kept in mind is that if you are relying on a portion of your income from savings or investments, this will generally only be sustainable for a certain period of time, if you are drawing down your principal in order to maintain this.
If you are living off the income of your investments, then spending your entire income may seem to be perfectly fine, but even then it’s a good idea to have a good plan in case the returns from your investments become reduced to the point where you may have to draw down the principal.
Supplemented income though generally does involve spending part of the savings each year, and whenever that’s the case, the money will run out at some point. The main goal of this whole thing, your plans for providing for your retirement years, is to avoid this happening, so this has to be your primary goal at every step of the way, including in your advanced years.
Many people have the goal of leaving an estate to their loved ones when they pass, and to the degree that this is the case, one must incorporate that into their calculations. This will involve being able to maintain an even larger cushion between what they have and will have versus what they will need along the way,
Planning One’s Spending in Retirement
A lot of retirees don’t do a particularly good job of planning their spending once they reach retirement, and this is due to the fact that these things are of such a personal nature that their advisors don’t really get too involved at the level that is required.
Whenever one is looking to decide what to spend their money on and how much to spend, it is not as simple as deciding whether one has the money. We must also account for the longer term consequences of a given amount of money being spent on something, which requires a certain amount of vision and discipline.
A lot of people don’t have the right amount of either though. Some cultures do this a lot better than others, cultures where overspending is more frowned on, versus those where overspending is considered quite normal and is also greatly encouraged by all the ads we become exposed to on a day to day basis.
A lot of us even appear to be brainwashed to consume, and while consuming in itself isn’t a bad thing, it can be if it becomes unwise to do so, where we give up too much in the future to satisfy our present needs.
When one sees one’s income reduced, as is usually the case in retirement, this is no time to neglect the future. When we do so, and we suffer the consequences of not living responsibly enough, we will come to regret our present choices. It is usually too late at that point though as the mistakes have been made and now we have to live with them,
Overspending to one person might be underspending to another, and this all comes down to what our capacity to spend is, our present income levels. As we get older though, and especially when we can no longer afford to throw money around like we used to, we usually get wiser, but you don’t want to need to get wiser at a point where you’re not able to support yourself properly. This wisdom ideally will all be in the present lest we come to regret our past choices.
The more responsible we become with our spending, both in the years leading up to retirement as well as when we’re in retirement, the better we’ll serve ourselves and our goals and needs.