If You Are Retiring Don’t Rely On Living On Less

We all assume we will need to spend less in retirement. But is this true? You have probably heard of the "income replacement ratio" – the amount of money you will receive after retirement compared with your pre-retirement salary. Most retirement plans will feature an income replacement ratio some way below 100%, partly because those planning for retirement and their financial advisers assume that monthly expenses will be lower.

 

For those of us considering a clean-break retirement in our 60s, the prospect of inflation and rising living costs is scary. A research actuary at Alexander Forbes and university lecturer recently carried out research as part of her Master of Science degree, in which the income and expenditure profiles of around 3000 households were analyzed. According to findings, consumption did not decrease voluntarily at the point of retirement, and in fact some households reflected higher consumption, mostly due to increased spending on healthcare. Only households whose income was restricted actually made spending cuts. "If not limited by their lower incomes, these households would spend at similar levels to what they did while working."

 

The research shows that if you’d like to maintain an equivalent level of household expenditure post-retirement, you may need to put away a greater lump sum than you expected to, particularly if you are single. She said most retirement funds used income replacement ratio targets of 70% to 79%, but research showed that even a replacement level of 79% was inadequate for at least 82% of single females and 88% of single males.

 

The picture for couples was less bleak, "particularly if the younger partner continued working after the older partner retired. That said, only about half of couples would find a target of 79% enough to avoid a consumption drop at retirement." What do the findings tell us? They leave you with four options:

 

Try to put away 10% to 15% of your total income as retirement savings, avoid dipping into savings before retirement, swallow the disagreeable pill of working until at least 67 and avoid the temptation of cashing in retirement savings when changing jobs.

 

The longer you work, the more you put away while you are still earning. According to Alexander Forbes, to retire at 60 the average household needs to have accumulated 14 to 18 times its annual income. But this reduces to 12 to 17 times with a retirement age of 65, and down to 10 to 15 times for retirement at 70. Their research also indicates that single women need to accumulate more than men, given that they can be expected to live longer.