Spending habits key factor in deciding when you can retire

I’ve often told clients, it’s not what you make – it’s what you spend. This is especially true in retirement. Some financial planning articles state that before you retire, you should have a new roof, new car, and no debt. I wish it was that easy.

Previous generations have lived through financially challenging times such as the Great Depression, when being frugal was a means of survival for most people.

I’ve often had discussions with my wealthier older clients about spending some of their “fortune” as they would describe it. For people who have truly lived through tough times, it’s not easy to spend money for the sake of spending money – that would be foolish. They’re also more content with the basics of life.

I’ve always enjoyed talking to my older clients about how they accumulated their net worth. At the end of the meeting the handshake is always as sincere as the conversation.

Most of their stories have a similar conclusion, in that they were just as happy when they had very little. In fact, those were some of the most interesting years where they were excited to share with a friend about a great deal on a used couch. If you gave used furniture away to someone they were happy to get it. Over time we have grown into a society of consumption, and this same consumption helps grow our economy.

There is a very high cost to excessive consumption. First, you require a significantly higher amount of capital in order to retire. The greater amount of capital you need, the longer you have to work. Actuaries have data that supports that the longer you work, then the shorter your life expectancy. Being happy and content with what you have is perhaps the most important mindset as you enter retirement.

To simplify the numbers, let’s use four different couples, where each has $500,000 in the bank at age 50. We make the assumption that all four couples will earn a net return of four percent and have a life expectancy of 90 years. Although each couple makes a different income, all four are able to save approximately $50,000 a year. The only different variable is the amount of capital they require in retirement.

Mr. and Mrs. Green have always enjoyed a good income but also have extravagant tastes, and they do not want to significantly change their lifestyle in retirement. Combined Mr. and Mrs. Green are currently earning $200,000 a year and are able to save $50,000 annually. In preparing their financial plan they wish to have $10,000 a month from their investments, or $120,000 per year. In order for Mr. and Mrs. Green to have $10,000 a month they both have to work until age 65.

Mr. and Mrs. Black are both professionals and have moderate to high expectations for income during retirement. Combined, they currently earn $180,000 a year and are able to save $50,000 a year. In preparing their financial plan they wish to have $8,000 a month from their investments to live on each year. In order for Mr. and Mrs. Black to have $8,000 a month to live on, they both have to work until age 62.

Mr. and Mrs. White have been very prudent in saving income over the years. They have moderate retirement plans that involve a reasonable level of cash flow. Combined Mr. and Mrs. White currently earn $160,000 a year and are able to save $50,000 a year. In preparing their financial plan they wish to have $6,000 a month from their investments to live on each year. In order for Mr. and Mrs. White to have $6,000 a month, they have to work until age 59.

Mr. and Mrs. Brown have simple plans and like the idea of just relaxing. Combined Mr. and Mrs. Brown earn $140,000 a year and are able to save $50,000 a year. In preparing their financial plan they wish to have $4,000 a month from their investments each year to live on each year. In order for Mr. and Mrs. Brown to have $4,000 a month, they have to work until age 55.

In the above case, Mr. and Mrs. Brown are able to retire at age 55, Mr. and Mrs. White at age 59, Mr. and Mrs. Black at age 62, and Mr. and Mrs. Green at age 65. The Browns are able to retire at age 55 primarily because they are choosing not to consume as much during retirement; and retiring ten years earlier with less consumption is more important than working longer with more consumption.

In the most likely outcome, Mr. and Mrs. Brown will have a longer life expectancy than Mr. and Mrs. Green. As noted above, the longer a person works, the shorter one’s life expectancy. A financial plan and working with an advisor should assist you in getting comfort on picking the right retirement age and consumption level.