The story of a miserly, Scrooge-like figure who spends years hoarding his wealth instead of enjoying his retirement may seem unbelievable – but unfortunately it is not just fiction. For many retirees it is a cold reality.
According to the Life cycle hypothesisThis shouldn’t have to happen. A retiree who is financially prepared for retirement should have consistent income in retirement and her overall consumption should not change.
Who is struggling to spend their retirement income?
Um 25% of pensioners fall into the camp of people who reduce their spending in retirement.
Additionally, research suggests this problem could be getting worse. Researcher found that the problem was most pronounced among people who use their own savings for retirement income – while people with guaranteed sources of income, like for example Pensions, social securityPensioners and annuities were more likely to spend their income.
Why do people find it difficult to switch from a saving to a spending mentality?
One school of thought assumes that people simply don’t need to spend as much in retirement. For example, as people retire, their work-related expenses may decrease. They may be able to spend more time doing things they once had to pay for – now making meals at home or mowing their own lawn – and looking for the best deals on their purchases. And they can pay off their mortgagethereby reducing their expenses.
Another line of thought points to more psychological reasons for changing spending habits.
Before retirement, a person may be more susceptible to it current bias (the tendency to focus more on the current situation at the expense of long-term planning) because their future employment income is uncertain and they do not yet feel ownership of this money. This uncertainty gives them the flexibility to think things like, “I’ll work more hours next month to make up for that trip” or “My boss will pay out that bonus soon.”
However, after retirement, they have a fixed income and the money they spend comes out of their own pocket. This shift triggers loss aversion – that is, the desire to avoid losses outweighs the desire to make profits. In retirement, we know that overspending today will certainly lead to a loss of consumption in the future. In a world where you are 85 and incapacitated, that future loss is much greater than an additional extravagance today.
How to overcome retirement spending problems
Every retiree is different and different explanations may apply based on their personal circumstances, so retirees may benefit from taking inventory of their retirement expenses.
Start measuring your financial affairs and have a clear idea of how much you can spend.
Try tracking your spending using one Online tool which breaks down spending by category. It’s ideal to do this before you retire, but not essential. Review your total spending quarterly and note any categories in which your spending habits have changed. Do these changes fit your financial goals? Has your spending on eating out suddenly dropped even though you love trying new cuisines with friends?
The pieces of the retirement income puzzle
If you fall into the underspending camp, Research suggests that people who use guaranteed income sources are more willing to spend their income.
If you don’t want to make the leap to guaranteed income streams, try reframing your retirement income as a paycheck that someone else pays you.
While not spending enough money in retirement is not a universal problem, it does represent a major missed opportunity for the retirees involved. It’s important to remember that this is the money you have have cared for and protected it for years. Now, during a long and happy retirement, is the time to put the money and free time to good use and put both resources into your version of a life well lived.
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This article was provided to The Associated Press by Morningstar. For more personal finance content, visit https://www.morningstar.com/personal-finance
Samantha Lamas is a senior behavioral scientist at Morningstar.