When Spending Too Little Is the Biggest Retirement ‘Risk’

What You Need to Know

Even the wealthiest client can experience deep discomfort with spending in retirement.
Spending on experiences that deepen social connections tends to increase happiness more than buying physical things.
Encourage wealthy clients who want to leave a legacy to consider planning gifts earlier in life, CPA and author Mike Piper says.

Wealth managers working with clients focused on retirement planning rightly put a lot of focus on ensuring their clients won’t run out of money late in life, but in the experience of Mike Piper, a certified public accountant and author, too little attention is paid to the “opposite risk” of significant underconsumption.

This is especially true in the high-net-worth and ultra-high-net-worth arena, Piper says, and wealth managers working in this space should take time to consider whether their clients may be crossing the line from prudence to paranoia when it comes to retirement spending.

Piper shared this warning on the latest episode of Morningstar’s The Long View podcast, hosted by Christine Benz and Jeff Ptak. During the discussion, Piper, Benz and Ptak dug into the ways the planning effort looks different for those clients who “clearly have enough wealth” to navigate the retirement journey.

In such cases, advisors who can help their clients balance their own personal consumption with their goals for giving to charity and leaving a family legacy can deliver tremendous value — and peace of mind.

Striking the right balance, Piper says, will allow a client to enjoy their heard-earned wealth while also ensuring the goals of charitable giving and legacy planning get their due. It can also help the advisor bring clients’ spouses, children and grandchildren into the planning process, deepening the ties between the advisor and the client’s family.

In the end, helping a client feel comfortable and confident about their spending and giving is an important part of holistic advice, Piper says.

When Enough Is Enough

While there is a lot of nuance baked into the question, there is a relatively straightforward calculation to help determine when a client has “enough” wealth for retirement, Piper says, and it’s based in a very familiar rule of thumb in the planning community.

Basically, if an individual has a stated income need of, for example, $150,000 per year, and they also have a pool of wealth from which they can reasonably expect to draw that amount annually while having these withdrawals represent less than 4% of their assets, then they have “enough” to comfortably retire.

“That’s basically the battle-tested lower limit of what it means to have enough for retirement,” Piper proposes. “Typically, I would say that the younger you are and the lower the interest rates are at the time, the more we want to be looking towards a 3% figure, and the further you are into retirement and the higher the interest rates are, the more that 4% figure or higher is applicable.”

From this baseline, the advisor can start to tell just how far ahead of having “enough” an individual or couple might be. While this is all personal and based on lifestyle expectations, if a person can draw $200,000 or $300,000 per year from their portfolio and not even begin to approach the 3% or 4% limit, then they clearly have a lot of wealth.

“They clearly have enough to comfortably steward them through even a lengthy retirement period — assuming they set and stick to a reasonable annual budget,” Piper says.

A Fundamental Discomfort With Spending

One might assume that a client who is fortunate enough to be in this situation would be able to set their money worries aside and live a carefree financial life in retirement. But, as many advisors will already know, that is far from the truth.

Simply put, Piper warns, there can be some powerful psychological barriers that people face with respect to feeling comfortable about spending money on themselves during retirement — or even in giving money away to charities or to the next generation.

“There are a few reasons that a [wealthy] person might be feeling that way,” Piper says. “To start, I think sometimes, it’s just natural personality. The same character traits that led a person to accumulate a large sum of money — it might mean that they are also an anxious person who is typically nervous about the future. To this point in life it has all just been save, save, save.”

Of course, a person’s lifestyle in retirement and their use of their wealth is their own prerogative, and advisors should not assume that a person who is living way below their means is somehow making a mistake. That said, if an advisor suspects it is sheer nervousness or discomfort that is preventing the client from reasonably enjoying more of their wealth, this could be cause for a more frank discussion.

“You can take a research-based approach to talking about this,” Piper suggests. “There’s a considerable amount of research on the topics of what types of spending are most likely to result in an increase in happiness. Because the point here isn’t just to spend more for the sake of spending more. The point is, if you’re going to increase your spending, lets figure out how to do it in a way that’s going to make you happier and meaningfully improve your quality of life.”

Higher Spending That Counts

As Piper recalls, research in this field, broadly speaking, supports two big conclusions.

Charitable and Legacy Giving

Piper says charitable giving is another important area to explore with these clients.

“Clients who are wealthy and in retirement often come to realize on an intellectual level that they could afford to be giving more to either loved ones or to charity — but they still just feel anxiety around it,” Piper says. “One solution is to start with a small amount. Start with some amount that doesn’t trigger huge anxiety and then just see how the client feels afterward.”

Generally, the act of giving will make the client feel good, especially if they grow engaged in a cause and they see the impact of their giving over time.

Another tricky issue to deal with, Piper says, comes up when clients “wait until the end” to enact their legacy plans.

“It is a common pattern among high-earning, high-savings households to see adults leave a substantial sum to their children when they pass away — but the children themselves are often middle age or even older at that time,” Piper explains. “Often, the younger generation has already managed to accumulate enough assets to satisfy their desired lifestyle in retirement. So, this new chunk of money that they receive doesn’t really do anything for them in any huge meaningful way.”

If a client feels strongly that they want to pass substantial wealth to their children or grandchildren, depending on the circumstances, it can make a lot of sense to work on giving earlier.

“The good news there is that, with gifts made earlier on, they can be in smaller amounts and still be super-impactful,” Piper says. “If your kids are in their late 20s and they are looking to buy their first home, a gift that helps them make that down payment is tremendously impactful. Relative to a [high-net-worth] retiree’s portfolio, that’s often not a huge percentage of it.”

Other avenues for meaningful giving could be helping the grandkids or great-nieces and great-nephews pay for college, Piper proposes.

“If they come out of school with somewhat smaller student loans, it makes their life so much easier and less stressful and less challenging,” Piper concludes. “So, smaller giving amounts can be really impactful earlier in people’s lives.”