When Are Retired Investors Spending Too Little and Saving Too Much?

The thought of saving too much as a problem seems preposterous. When the news media resonates with a retirement saving crisis and the sad state of most Americans bank accounts, how could saving too much be a problem?

After all, the Government Accountability Office recently released a study that shows approximately half of households over age 55 lack retirement savings.

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Despite many retirees that lack savings, there is another group, albeit smaller, that has sufficient retirement funds yet saves excessively -- depriving themselves of daily needs because they have difficulty spending. This is described by financial writer Michael Kitces in his Nerd's Eye View blog as a "consumption gap" between what they could or should spend versus actual spending.

Why is a consumption gap in retirement a problem?

"Where I have seen it be a problem is on the behavioral front," says Jeffrey Farrar, managing director of Procyon Partners in Wilton, Connecticut. Clients might have a problem if they won't spend because they believe an arbitrary net worth number is more important than creating memories or living a full life, Farrar says.

Luis Rosa, founder and certified financial planner at Build a Better Financial Future in Las Vegas, says he asks clients, "Do you want to be the richest person in the graveyard?" This starts the conversation with folks who are loathe to spend, have an overly frugal lifestyle and might not realize the impact of saving too much and spending too little.

A consumption gap in retirement can be an indicator of ingrained beliefs and psychological issues. If clients have a deep-rooted or irrational fear of overspending or running out of money in retirement, showing them that they have enough may not resolve the issue says Jeffrey Stoffer, founder of Stoffer Wealth Advisors in San Rafael, California.

"You can't satisfy an emotion with a number in your bank account," he says. "The emotion is fear and it doesn't just go away when you hit a magic number."

For those who have been frugal their entire lifetimes, spending more now can seem extravagant or wasteful, says David Nash, owner of Magister Wealth in San Antonio. His clients might discuss luxury vacations, home remodeling and new cars, but feel uncomfortable pulling the trigger. "You are advocating against the good habits that gave them this enviable circumstance," Nash says.

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To deal with the desirable consumption gap problem, there are strategies that can help the retiree.

Talk it out. Financial professionals are useful guides to help the retiree see the big picture, talk about their fears, and explore strategies. Paul Ruedi, financial planner and principal at Ruedi Wealth Management in Plano, Texas, explains the importance of having a financial plan that illustrates how much a retiree can afford to spend, based on their existing assets. By viewing their assets clearly, the planner "helps them realize that continuing to sacrifice their lifestyle doesn't really buy them anything. It just results in an unnecessarily large estate for their heirs to inherit. If you don't fly first class, your kids will," Ruedi says.

Use a Monte Carlo simulation. Nash explains how a Monte Carlo simulation randomly generates outcomes based on past or future estimates of average returns. This gives retirees a sense of worst- and best-case scenarios for their retirement savings. The concrete information goes a long way in helping retirees prone to saving too much and underspending to see that they have sufficient resources to live in a particular way and leave a legacy. Ultimately, "this type of planning can guide retirees toward retirement spending in line with their goals and assets," Nash says.

Buy an annuity. Another anxiety-reducing solution is converting a portion of the retiree's wealth into an annuity stream that's not subject to market risk, Farrar says. When the wealthy senior has a "paycheck" every month, the obsessive worry about market volatility or "what ifs" is reduced.

Farrar discusses possible end-of-life scenarios with his clients, having them consider whether heirs, a charity or the government will get their wealth. When the conversation is approached, it can cause folks to look at the reality of their choices and reconsider how they choose to save and spend.

[See: 15 Things You Need to Know Now About Annuities.]

Charity is a wonderful way for some frugal retirees to distribute their wealth. They might use a donor-advised fund or gift to a charity while they're alive, to enjoy the impact of their generosity. Other wealthy seniors prefer to help a needed family in their own community to whom a $10,000 gift would be life-changing.

So, if you have the delightful problem of being a frugal retiree who saves too much or spends too little, then think about what you want your life and your legacy to be. If you don't enjoy the fruits of your labors, eventually someone else will.

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