You could be saving too much for retirement
Hardly a month goes by without some study highlighting the fact that most Canadians approaching retirement are worried about their finances and expect they'll need to work much longer than planned.
Two new polls by ING DIRECT reveal that retirement has been cut short for 30 per cent of older Canadians, with close to half (48 per cent) being forced back to work due to financial reasons.
The bulk of those previously retired workers who re-entered the workforce either did so because they didn’t have enough money saved for retirement (33 per cent) or they were overwhelmed by increased living costs (31 per cent).
Among those who were forced back to work for financial reasons, nearly a third (31 per cent) returned on a full-time basis, ING notes — but there's nothing to say you’re going to be one of them.
For years now, Canadians have been told the retirement target they need to shoot for is about three-quarters of what they were making before they left work.
But, for a great many people, the actual number may be less than that, says David Blanchett, head of retirement research for Morningstar Investment Management in Chicago, Ill.
There are three common assumptions that many software tools and financial advisors use to come up with a retirement savings goal, he explains. Most employ a 70 to 80 per cent replacement rate based on pre-retirement income, an income need that rises regularly with inflation, and a 30-year retirement time horizon.
But those rules of thumb could lead to serious miscalculations when you're plotting your financial future.
“When we looked at actual retiree spending patterns and life expectancy, however, we find that these assumptions don't hold true for many people and, on average, can significantly overestimate how much people will actually need to fund their retirement,” Blanchett says.
Blanchett argues that the correct target income percentage may be much lower for many people, considering that mortgage costs and work-associated expenses like payroll taxes and commuting — as well as retirement savings contributions — all but disappear once you retire.
Plus, if you’re among the legions with children who plan to be at home until you're practically retired, the paycheque you’ll need down the road should be smaller than the one required to pay for things now.
In fact, to his way of thinking, that replacement rate could be much closer to 50 per cent, particularly if you haven't been making all that much money to begin with.
When Blanchett modelled actual spending patterns over a couple's life expectancy, rather than a fixed 30-year period, he found that many retirees may need approximately 20 per cent less in savings than the common assumptions would indicate — although he admits actual replacement rates are likely to vary among households.
It all comes down to how you view your future. Traditional retirement planning assumes retirees' income needs will increase as they age, thanks to inflation.
That why most advisors and retirement calculators bump up the amount retirees are expected to withdraw from their savings by at least two to three per cent a year to reflect rising prices — particularly when it comes to bigger ticket items like property taxes, condo fees, and home repairs.
But that may be too big a cushion, Blanchett maintains — especially for middle-income retirees, since much of their income comes from indexed government programs.
That’s why many people would likely benefit from claiming CPP and OAS pensions a bit later if they can, he suggests. By delaying, you’ll get a higher inflation-adjusted benefit for life.
Blanchett also feels most retirees end up spending less than they think they might. While there's often an initial spike in consumption when people retire, that generally tapers off, he maintains.
In most instances, in a pattern that he labels the “retirement spending smile,” spending actually goes down with age, although it does pick up a bit in later years because of higher health-care costs.
Remember though, our more generous universal health care means that older Canadians typically don’t face some of the more onerous medical costs that many Americans do.
Does all this mean you shouldn’t be putting retirement money aside whenever you can? Of course not — that would be stupid.
In fact, if you live longer than average, or develop a serious illness sooner than expected, you may wish you had a bit more money tucked away.
But, if Blanchett is right, missing that 70 per cent target isn't something to fret about.
Got a question about investing, saving or retirement? Send Gordon an email and we might answer your question in a future column.
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