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Market Update| Retirement Smile| November 24, 2021

Clinton Orr - Nov 24, 2021
I work with retirees and would agree that total spending decreases in retirement. Often there is no longer a mortgage, we are not contributing to pensions or investments, as well since total income is lower the tax burden is often less.

How much you spend in retirement is a key piece of your retirement plan. While I rarely get asked directly about retirement spending, the retirement budget is frequently a key component to answering other important questions. For example, how much do I need to retire? and how long will my money last? are both common questions that require an idea of your retirement spending to answer. Our retirement budget has a considerable influence on our overall retirement plan. I have frequently seen people use a rule of thumb to determine their budget. A common heuristic is 70% of your pre-retirement income is required to maintain your lifestyle in retirement. For example, if I earn $90,000 a year prior to retirement, I will need $63,000 a year in retirement. However, research has shown that unfortunately retirement spending is not that straight forward. I am not a fan of the 70% rule of thumb and believe a more nuanced approach is appropriate.

There are numerous studies that show total spending declines in retirement. Two Canadian examples are the 2015 BMO Financial Group study as well as the 2016 Sun Life survey, both of which found that average spending in retirement was less than the amount spent when working. I work with retirees and would agree that total spending decreases in retirement. There are numerous reasons for a drop in total spending: often there is no longer a mortgage, we are not contributing to pensions or investments, as well since total income is lower the tax burden is often less. However, I would argue living and lifestyle expenses (travel, entertainment, house maintenance, property tax etc…) remain the same or in some cases increase. In working with retirees, I find there is a decline in total spending, however the drop is often not as large as expected. We become accustom to a certain lifestyle and generally maintain that in retirement.

Your spending patterns are also likely to change throughout retirement. It is unlikely that you will spend the same amount at 60 years of age, as you will at 70 or 80. Research by David Blanchett, published in the Journal of Financial Planning in an article entitled “Exploring the Retirement Consumption Puzzle”, suggests while on average total consumption declines in retirement, the rate of decline is not consistent, it varies during retirement. There is a decline in spending during the early years of retirement, however spending reaches a point of inflection and increases during the later years of retirement – a U shaped pattern, or smile. Blanchett’s work also suggested that the size of the decline in the middle portion of retirement varies with income. Retirees with higher levels of income experience larger declines in their real spending, so the middle part of their spending curve dips lower, a more pronounced smile. As part of Blanchett’s analysis, he created an equation and estimated spending curves for various spending levels.

The retirement smile makes some sense. Early in retirement there could be greater spending on leisure, travel and entertainment. The extent of those activities decreases during the middle years of retirement and in the later years there could be an increase in spending as medical and healthcare cost rise.

Every retirement is unique. While helpful, the above data might not be a perfect fit for your retirement. When creating a retirement plan, I encourage folks not to worry too much about how much they will spend at 75 and 85, but to focus on their current spending, specifically looking at their current budget. In my experience often the lifestyle we live prior to retirement will be similar to our lifestyle in retirement. So, use the existing budget as a starting point to try and determine what will be realistic in the first few years of retirement. When creating a plan, we do make financial projections 20 and 30 years into the future, however, I believe, it is important to remember that retirement planning is not a one-time activity. Life happens, and as discussed above, spending patterns change, which is why we need to occasionally update our plan, to ensure it is still a good reflection of your actual retirement.

As always, if you have questions or would like to review your plan, please let us know. We are happy to help.

Take Care,


P.S. We recently hosted a webinar for snowbirds. US/Canada cross broader specialist Angela Preteau discussed common tax pitfalls and tax issues most snowbirds don’t realize until it is too late. If you would like to re-watch the webinar you can do so here.