R101 #5 - Surprise! You need to spend money.
If you feel like you’ve got a handle on lifespan, and you’re comfortable with investment risk - surprise! there’s another kind of risk you need to worry about. Our best-laid plans for budget and spending go awry when life happens. In retirement, this is even more impactful because surprises cannot be compensated for by working longer or earning more.
I’m going to touch on 4 different categories of surprises that can get you in (or into) retirement. Some of them are within your control, but most of them aren’t. The point I want to make with these is that your plan needs to account for things that are unexpected. This is why you can’t just “set it and forget it”.
Timing
Many people believe that the “when” of retirement is within your control. In some cases it is. However, surveys consistently show that something around 40-50% of people retired BEFORE they planned to. This could be for a variety of reasons like health, job loss, or caregiving responsibilities. Don’t assume that “the date” is going to actually be the date.
The other timing-related risk is that you don’t what kind of economy/government policy you’re going to be retiring into. Cycles of lower interest rates, recessions, market downturns, and public policy and tax changes can all affect your retirement. Two examples of this are on my mind right now because we don’t know whether the tax changes implemented in 2018 are going to sunset or be extended, and social security is not a given for us retiring in the future.
Family
There are a handful of situations that relate to family dynamics that need to be called out here. The most obvious is the unexpected death of a spouse which can dramatically shift the focus and success of a retirement plan. There is the deep emotional impact of losing a loved one, but there can be a significant financial impact with potential loss of income, increase in taxes (from married to single), and increased expenses for hiring help. This situation disproportionately impacts women as they are more likely to be single at the end of their lives.
The other family related impacts are “gray divorce” and taking care of other family members - whether it’s aging parents, kids that fail to launch, or grandkids. Divorce near or during the retirement years can be very detrimental to the financial plan, especially if you’ve been planning for a two-person household with a certain asset level. Caregiving responsibilities for family members can take both a financial and emotional/health toll and boundaries may need to be established.
Health
We’re going to talk more about health insurance, healthcare costs, and long-term care expenses in a separate post later, but suffice it to say spending on health and staying alive can get expensive. If you retire before Medicare coverage kicks in, you have the added challenge of what to do if you are no longer covered by your employer’s health insurance. Costs for these items are rising faster than inflation and I see no signs that will slow down.
Your retirement spending shocks related to health can be a one-time event, rising over time, or coming over several years at the end of life when you can no longer care for yourself due to mental or physical decline.
Cost of Living/Housing
Somewhat related to health are costs of living and housing decisions. Prices for almost everything go up over time. That’s why you always hear about how important a concern inflation is to retirees “living on a fixed income”. Pensions don’t often come with cost of living increases, and if they do, they’re not usually enough. Social security gets a COLA (cost of living adjustment) every year, but depending on what you actually purchase and where you live, it too can lose spending power.
Housing can cause spending shocks during retirement as well. The first thing that may come to mind is that paying off your mortgage prior to retirement is often a goal. That can definitely help reduce your regular expenses after you retire, but don’t forget about property taxes and insurance. Those will continue and increases may be shocking. Homes also need ongoing maintenance. It’s harder to budget for a roof or a new heating system, never mind what it can cost to make upgrades you’ve always dreamed about or that are needed to age in place. More about housing decisions in a later post!
I hope I’ve convinced you that surprises are coming - you just don’t know what they are. Successful retirement income planning demands a certain amount of flexibility in access to cash to cover surprises, and prior planning to mitigate their impacts.
