Michael Finke, Professor and Director of the Granum Center for Financial Security, American College of Financial Services, joins Yahoo Finance to break down the new report by David Blanchett & Michael Finke regarding retiree spending.
- A new report finds that many people are actually spending less in retirement even though they could comfortably spend more out of fear of running out of money. Joining us now is Michael Finke, professor and director of the Granum Center for Financial Security American College of Financial Services. Professor, thanks so much for being with us. I found some of what you put together here quite fascinating. First, let's talk about the households who are not spending as much as they could in retirement. What are some of the driving forces behind that?
MICHAEL FINKE: Yeah, we've studied retiree spending and found that there really is a puzzle. Why are people not spending as much as they could, especially people who have saved a lot for retirement? If you think about it, it is a mystery, because why did you sacrifice during your working years if you're not willing to spend that money in retirement? So what we did was we looked a little bit more closely at what are some of the differences between those retirees who spent more and those retirees who spent less.
- So let's talk about some of the households who spend more right now. Are there trends there? What are they doing maybe differently that gives them a different feeling of confidence to spend more when, you know, those retirement years-- let's face it-- some people are getting no income at all or very or very little income?
MICHAEL FINKE: Well, the reality is that many of us are-- we are accustomed to spending less than our income during our working years, and then we get to retirement, and it feels a little bit odd spending down our savings. And especially in a low-interest rate environment like the one we have right now, it can seem a little scary to spend down our savings.
And what we find is that those who have, for example, pension income-- if we were to estimate the equivalent savings value of that pension, we find that those who have a pension spend significantly more than those who have the same amount of wealth and investment assets. So in other words, people just tend to let their investment assets sit. They don't actually spend them.
So what we found is that simply annuitizing your wealth-- and you can get more annuitized wealth by delaying social security, or you can buy a private annuity-- by doing that, you can actually enjoy the money that you've saved for retirement because it gives you a license to spend it without worrying that you could potentially run out.
- And when I hear pension, I think that's a dwindling segment of our population, right? Because so few people stay at companies long enough to get a pension. Fewer and fewer companies are offering pensions. So what should people looking at retirement now do in order to feel more comfortable in those years and those golden years to spend a little bit more freely if they don't have the luxury of a pension? You mentioned holding off on social security so you can take the full benefit when you're a little bit older as one thing you can do. What are some other things they can do?
MICHAEL FINKE: Yes. You know, there was a recent study by the Alliance for Lifetime Income that found that people in my generation, Generation X, and millennials, were actually quite interested in this idea of taking a portion of their defined contribution savings and putting it into some kind of an instrument that provides an income for a lifetime.
So in the private sector what these instruments are called are annuities. So you-- you go to an insurance company, and you provide them with a lump sum of payments, lump sum of money, and in return they offer you a lifetime guarantee of payments. It is essentially the equivalent of a private pension. And what we find is that there is significant interest in that type of a strategy, but it's not happening enough.
And I think it's because we're really just entering the first generation of retirees that don't have pension income. For them, they're going to have to become more accustomed to the idea of buying lifetime income with a portion of their savings if they want to be able to live better.
- And, also, we're living longer now, which is another major difference between generations past and current generations who are not yet near retirement. Is that another reason why you think people are-- are not spending quite as freely in retirement because they're saying, you know what? I could live a lot longer here without regular guaranteed income coming in.
MICHAEL FINKE: You know, that's absolutely true. In fact, especially at those higher-income levels, people who saved more for retirement, people who are, frankly, going to rely more on their 401(k) savings to fund a lifestyle because social security is not going to replace the same lifestyle that they had before retirement. For them, they're not only living longer, but they're going to have to use their investments to be able to fund that income. And if you don't know how long you're going to live, naturally you're going to spend less. And that is the lifestyle sacrifice of failing to protect against longevity.
- What about some-- there are tax implications, of course, when you do dip into things like your investments. Do you have any recommendations there about how people may be able to tap into those investments without getting a huge tax bill on the back end? I mean, you would like to think that in retirement, because your income level is going to be different, your tax consequences will be lower than they would have been when you were actively working. But what are some-- some things they can do to sort of lessen that tax burden?
MICHAEL FINKE: You know, it is so important after you retire before you start having to take RMDs to start thinking about this question because you really only have that significant flexibility when your income is lower after you stopped working but before you have to start pulling money out of your IRA. What you can do is you can pull some money out early, maximize those tax brackets as a way of pulling money out of the lower marginal tax rate. You can then convert that money into a Roth.
But the important thing to remember is that the right approach to pulling money out of your investments is to leave the most tax-efficient investments alone till the very end. So something like a Roth type of investment or even money that's sitting in investments within a taxable account that have significant-- significant capital gains, those are the ones you want to touch last. And you want to think about opportunities to take some of your 401(k) assets early as income when you're in a lower marginal tax bracket before those RMDs start kicking in.
- Yeah, good sound advice there, Professor. Any idea on what retirees are willing to splurge on? I mean, I'd like to think I'm going to be willing to splurge on some big trips if I'm lucky enough to be healthy enough to make it there and travel in retirement. But what are people spending on when they do?
MICHAEL FINKE: You know, what we find when we look at spending is that there are some people, especially immediately after retirement, who just spend a ton of money. We-- we like to call them the RV retirees. They're the ones that maybe blow a lot of money on an RV or on a vacation home. I-- first of all, you're probably going to get the most enjoyment from spending between 65 and 75, relatively early on in retirement. So you want to pay attention during those years and get the most out of the money that you save.
At the same time, give some thought to what's actually going to make you happiest. And don't dump all of your money in one thing like an RV. I think it RV is a perfect example because a lot of people get sick of it after about a month. They probably ought to have rented instead of actually buying one.
So give different things a try. Use your money. Don't just sit on it. And remember, there's only two things that can happen to your money in retirement. You can either spend it, or you can give it to someone else. So if your goal is to spend the majority of those savings, put together a plan for actually spending.
- I have taken notes during this interview, Professor, for when my time comes to retire. Professor Michael Finke, professor and director of the Granum Center for Financial Security. Thanks so much. Those are some great insights.