A lot – says a new article at MoneyWatch, based on a report in the Wall Street Journal, in which Dan Ariely and Aline Holzwarth report on research at the Center for Advanced Hindsight at Duke University, which identified a pay replacement level of 130%, meaning you should expect to spend 130% of your preretirement income, after you retire.
Think that’s outlandish? Well, so do I, actually.
The traditional replacement rate has been something more like 70%, assuming that several significant sources of expenses disappear right around retirement age: the kids are out of the house and college tuition is paid off, most notably, but also, FICA contributions are gone, your tax rates go down (assuming part of the money you’re spending is the spend-down of after-tax income like a Roth IRA), you no longer need to dedicate part of your income to savings, you no longer need to buy a professional work wardrobe, and so on.
Now, many of these assumptions are being upended — more and more retirees continue to have mortgages, they are less likely to have had a closet full of suits, and so forth. And workers who are accustomed to having the lion’s share of their healthcare expenses being paid for by their employers will find that, even after Medicare eligibility, they will be paying more for out-of-pocket and supplemental insurance costs than they’re accustomed to.
One of the more long-running studies, produced by Aon Consulting and Georgia State University, calculated a replacement ratio of about 80% for typical earners (varying by income level). However, this study was last produced in 2008; now the company (after merging with Hewitt Associates) has been producing (most recently in 2015) a study called the “Real Deal” which determines that retirees need 83% of preretirement income immediately after retirement, but then assumes that medical expenses increase at a rate greater than inflation so that spending ratios increase over time.
So why do the Duke researchers come up with 130%? Because they’re talking not about needs, but wants.
According to the Wall Street Journal, the researchers asked participants in a study to imagine their ideal retirement.
To help you think about your time in retirement, imagine that every day was the weekend. How much would you like to spend in each of these categories? How often would you eat out? Which digital subscriptions would you want to have? How would you pamper yourself? How often, where and how luxuriously would you want to travel?
The researchers then tallied the cost of the lifestyle that their study participants said they wanted in retirement, on average:
To find out what people actually will need in retirement — as opposed to what they think they will need — we took another group of participants, and asked them specific questions about how they wanted to spend their time in retirement. And then, based on this information, we attached reasonable numbers to their preferences and computed what percentage of their salary they would actually need to support the kind of lifestyle they imagined.
But is this a reasonable way to assess retirement spending? If someone with the capacity to save is looking for a helpful process for making planning decisions, sure — especially if they understand that these spending patterns will change over time, as cruises and golfing are replaced by bingo and other more sedate (and less expensive) activities.
But the “every day is a weekend” approach to retirement is certainly not an appropriate starting point for someone trying to assess their retirement needs, and certainly not reasonable as a scare tactic for retirement policy!
What’s more, for most people, it’s not even an appropriate way to plan out one’s life, to follow a trajectory of working hard to reach that elusive goal of total relaxation and luxury at retirement, or to imagine that well-being in retirement will be found by living life in this manner, rather than thinking more pragmatically about ways to feel fulfilled and engaged, rather than just pampered, in retirement.
So by all means, plan ahead by thinking about the sort of life you want to lead in retirement. But do so in a way that includes a balanced life over your entire life cycle.
Elizabeth Bauer has an M.A. in medieval history and the F.S.A. actuarial credential, with 20 years of experience at a major benefits consulting firm, and having blogged as “Jane the Actuary” since 2013, she enjoys reading and writing about retirement issues, including retirement income adequacy, reform proposals and international comparisons.
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