Permission to Spend

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There was a time when it was possible to live in retirement by putting money in a bank account and living off the interest, leaving the sum invested intact. Those days are well and truly gone. There are a number of reasons for this, Pensions have not kept up with the cost of living in retirement. People are living longer in retirement and expect a higher standard of living. Many retirees are renting or still have a mortgage and the pension is simply not enough to cover rent or mortgage payments. Add to this the current cycle of low interest rates and high inflation and it’s no wonder that many retirees are struggling.

Yet many retirees are reluctant to spend their retirement capital and choose to live in poverty instead. There are psychological factors at play here. Accumulating savings and investments during your working life is hard work. It requires discipline and sacrifice to set aside funds for later in life and there is a sense of immense relief in getting to retirement with a decent lump sum set aside. However, because retirement money is so hard won, it can be nerve-wracking trying to decide what to do with it and thought of using up retirement capital doesn’t sit comfortably for many people. The reality nowadays is that, for most people, using retirement capital to fund retirement is imperative.

However, the uncertainties and anxieties of managing money combined with the lack of planning mean that many retirees underspend during their retirement. That is, they die with more money invested than they intended to have at that time.

Choosing to retain investment capital has a significant impact on the amount of capital required to produce the required amount of retirement income. For example, assuming an investment return of 2% after inflation and tax, you would need investment capital of $500,000 to produce an annual income of $10,000 while leaving your capital intact. However, if we assume capital is run down over a period of 30 years, only around $228,000 is needed.

Retired investors often overlook the fact that investment return comprises both income and capital gain. Both can and should be used to supplement income. Investing in assets which produce income but no capital gain, such as term deposits and bonds, inevitably means lower returns and more tax. Capital gain comes from growth assets such as shares and is accessed for income by selling part of a holding or portfolio. It is important to track the total return (income and capital gain) on an investment portfolio so you can make informed decisions about how much to take from the portfolio.

Spending your capital doesn’t mean being wasteful with what you have. There is a balance to be struck between frugality and lavishness.

There are some people who have no qualms at all about spending every cent they have and perhaps every cent they can borrow. Most of us, though, feel at least a twinge of guilt when we spend money on expensive or nonessential items. There’s a little inner voice reminding us that we can’t really afford it or that we should be storing money in case we need it later. Feelings of guilt come from a combination of things we have learnt or observed in our childhood, our own life experiences and pressure from others. While there are some people who you might call compulsive spenders, there are others at the opposite end of the spectrum who you might call compulsive savers. They are so focussed on saving for the future that they miss out on enjoying life in the present. Such people are usually overly concerned about financial security. They are pessimistic and fearful and prepare themselves for the worst.

As you reach retirement, the two key questions you need to ask yourself are:

  1. Who is going to spend my money (will it be you, your children or someone else?)
  2. When will the money be spent (bearing in mind that you may live for thirty years in retirement)?

Managing money in retirement is all about planning when it is to be spent and investing it for a good return until such time as it spent.

The truth is that money only has value when it is spent, and if you don’t spend your money your children and grandchildren certainly will. So, don’t feel guilty about using up your hard earned nest egg. You have permission to spend!

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