One of the first things I learned upon wading into the world of work was that the majority of traditional financial advice is off-base and irrelevant for those pursuing aggressive savings and retirement before 65. The rules of thumb cited by major media sources are targeted largely at mainstream consumers who live paycheck to paycheck, spend 90 to 110% of their income each month, and will be lucky to have much of anything saved by traditional retirement age.
And, oh, do I love to trash them:
“Allocate 50% of your income to necessities, 40% to ‘wants,’ and 10% to debts and savings”
- Garbage. If you don’t want to have to work until 65, adjust your lifestyle until you’re saving 30, 40, 50% or more.
“Plan for a retirement spending level of 80-85% of pre-retirement income”
- Nonsense. Your retirement spending target should be based on spending projections rather than your current income.
“’Snowball’ your consumer debt repayments in order from smallest to largest”
- Completely inefficient. Pay down debts in order of interest rate, unless closing accounts is the only source of motivation that will keep you disciplined.
It surprises me, then, that there’s a major financial assumption I see tossed around constantly – yet rarely analyzed and rarely questioned:
“People tend to spend less as they get older.”
Though I’ve yet to come across an early retiree whose savings target actually included an assumption for reduced spending in the later years, I see people mention it frequently as a comforting reassurance – “Hey, if the 4% rule doesn’t hold up, at least we know that most people spend less in old age anyway.” I’ve been as guilty as anyone in quoting this statistic.
In our defense, unlike the media-spouted rules of thumb above, this one is actually fact-based when looking across the U.S. population. According to the 2013 Consumer Expenditure Survey by the Bureau of Labor Statistics, average annual household spending peaked at $60,524 for consumers aged 45-54, then decreased steadily to just $34,382 for consumers ages 75 and older.
Everyone from CBS News to Fortune to Time Magazine is thrilled to report the news, of course: you don’t need as much saved for retirement as you think! Hooray, time to put that Caribbean cruise on the credit card!
For early retirees, though, there’s a problem: these data are based on the behavior of typical U.S. consumers, not people already living frugally and banking a significant portion of their income.
The average 45-54 year old is a big spender
After a few decades in the workforce, our average 50-year-old consumer has picked up all the trappings of a textbook American life: a high five-figure income, a big house in the suburbs (with a corresponding big mortgage), two or three cars in the garage (likely with a loan or lease payment), a long and expensive commute to that great job, and a reasonably large budget for everything from clothing to entertainment to the kids’ college educations:
Average household characteristics, 45-54:
Age of reference person: 49.7
Pre-tax Income: $78,879
Children Under 18: 0.6
College-Age Children: ~0.8
Homeowner: 69% (72% of whom have a mortgage)
Average household expenses, 45-54:
Total Spending: $60,524 ($5,044/month)
Housing: $19,001 ($1,583/month)
Food: $7,907 ($659/month)
Transportation: $10,782 ($899/month)
Healthcare: $3,801 ($317/month)
Clothing: $1,826 ($152/month)
For many people pursuing early retirement through frugal living, these spending numbers will seem high, but they’re exactly what I would expect for a typical consumer whose lifestyle has inflated with income. The end result is a savings rate of less than 10%. For me, this isn’t a relevant starting point for assessing changing expenses in old age.
For the average consumer, spending does drop with age
Now let’s look at what happens when our 50-year-old ages another 30 or so years:
Average household characteristics, 75+:
Age of reference person: 81.6
Pre-tax Income: $34,097
Children Under 18: < 0.1
College-Age Children: < 0.1
Homeowner: 79% (15% of whom have mortgage)
Average household expenses, 75+:
Total Spending: $34,382 ($2,865/month)
Housing: $12,314 ($1,026/month)
Food: $4,144 ($345/month)
Transportation: $5,149 ($429/month)
Healthcare: $4,910 ($409/month)
Clothing: $768 ($64/month)
Over the course of 30 years, our average consumer’s spending has dropped substantially. There are a few logical explanations for part of the decrease. One driver, of course, is the elimination of career-related expenses such as transportation and clothing. Housing expenses have dropped substantially, too, perhaps a combination of a paid-off mortgage and an empty nest downsizing. The only category in which we’ve seen a spending increase is healthcare.
Where’s the $5,000 line item for golf?
Where’s the $5,000 line item for golf?
Another major explanation for the drop in spending, though, could be this: the average retiree can’t afford his or her pre-retirement lifestyle. Just because the statistics show that older consumers spend less doesn’t mean that they would prefer to spend less. Do people’s spending choices really change with age, or are they forced to change by necessity? The typical American consumer spends based on what he or she earns. For older retirees with little savings remaining, spending ability is reduced dramatically. The numbers might support my theory, with mean 75+ income ($34,097) nearly equivalent to mean 75+ spending ($34,283).
(If anyone has more data or research on this topic, I’d love to see it.)
…and the healthcare numbers are incomplete
Perhaps the most misleading data point in the BLS tables is the healthcare spending figure for elderly consumers. As indicated in the footnotes, “The CE is designed to represent the slightly smaller U.S. civilian noninstitutional population and excludes those living in an institution, such as a nursing home…”
For most retirees, early or traditional age, healthcare expense is the biggest wild card. This exclusion is not trivial. My quick estimate based on BLS and Census data is that out-of-pocket consumer nursing home care represents an additional ~$3,900 of annual expenditures per 75+ household. Perhaps it’s offset somewhat by reductions in other expenses.
Most frugal early retirees will have many fewer expenses to cut
When I evaluate my own spending habits today, I can’t imagine experiencing the same magnitude of spending decreases as the average consumer. Cost-wise, there’s not much downgrading to do from a <600 square foot apartment. I could trade fresh fruits and vegetables for Hamburger Helper and ramen, but I’d rather not. I already spend next to nothing on commuting, so there won’t be a big impact there, either.
If anything, I suspect my expenses will go up in major categories. My healthcare expenses are next to nothing today; can I really count on that forever? And forget cooking; I want to dine out more often! I expect that I’ll still want to travel regularly, too, but how many people in their seventies and eighties have the patience and energy to explore the back country looking for free campsites? When was the last time you saw one in a cheap international hostel? Our patience and tolerance for our frugal travel lifestyle may quickly wane – I think I’d rather stay at the Westin.
For these reasons, I’m not counting on any reductions in real spending over time. If anything, my current projection of stable inflation-adjusted spending over time might even be overly aggressive. This may not be the case for all early retirees, but I think it’s worth careful evaluation, especially among the frugal crowd, whose expenses are far more optimized than the average consumer’s.
Have you projected your long-term expenses? How do you think they’ll change?