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Retirement Spending Generally of Follows a U-Shaped Pattern

By Jane Young, CFP, EA

One of the biggest retirement planning challenges is estimating how much you will spend.  One rule of thumb is to anticipate you will spend about 80% of your pre-retirement income.  However, many studies have found this may oversimplify the spending habits that many retirees exhibit.  Researchers have found that spending is not consistent throughout retirement.  They have also found that spending is directly impacted by lifestyle choices, affluence, and health.

According to the Bureau of Labor, the average US household under age 55 spends around $58,000 annually and spending tends decrease slightly after age 55.  They found spending on food, entertainment and transportation remains stable.  However, spending on housing decreases and spending on health care increases.  

Retirement spending can generally be broken into stages.  Everyone’s retirement path is different, so you need to create a retirement plan based on your situation.  A typical retirement path may include an initial stage of transition, where you work part time or in a lower paying retirement job.  The second stage is when you completely stop working and focus your extra time on leisure activities.  During this timeframe your spending is likely to increase.  As you get older, you will enter a third stage when your health and energy level start to decline.  As you start to slow down, your spending is likely to decrease.  The fourth stage is toward the end of life, during which time long term care and medical expenses may increase dramatically.

The Center for Retirement Research at Boston College explored consumption rates in retirement.  They found that inflation adjusted (real) spending by retirees decreased by 1.5% to 1.6% per year throughout retirement.  They also discovered that health and wealth were two factors that impacted how much retirees decreased spending later in retirement.

In an article titled “Exploring the Retirement Consumption Puzzle”, David Blanchett, with Morningstar, analyzed survey data on inflation adjusted consumption of retirees over time.   He discovered what he calls a “retirement spending smile”.  He found that an average household is likely to experience declining real expenditures of 26% from the start of retirement through age 84.  After age 84, real average expenditures increase until death – but do not exceed the spending level at the beginning of retirement.   This resulted in a u-shaped spending pattern or the “retirement spending smile”.

His analysis found that retirees spent more on travel, eating out, and other discretionary items at the beginning of retirement.  As retirees age, discretionary expenses decrease, and health care costs increase.  However, the increase in health care is less than the decrease in other spending categories.

When you do retirement planning, use spending projections that reflect your unique situation and make adjustments to reflect a gradual decrease in discretionary spending of about 1% annually.  If you assume a constant inflation adjusted spending level, you may over save or cause yourself unnecessary stress if you are anticipating a shortfall.