Can Retirement Mistakes in the First Year Put Long-Term Financial Plans at Risk?

Retirement is a significant milestone. After decades of working, saving and building a career, having more time to travel, pursue hobbies, renovate the house or help family can feel well deserved. But that newfound freedom can also create a financial planning challenge.

• How much should you actually spend during your first year of retirement?

Financial advisors interviewed for a recent MoneyLion article point to a common problem among new retirees: spending can rise sharply during the first year, putting pressure on a portfolio that may need to support decades of future income. Conner Anderson, CFP®, Lead Financial Advisor at Aspyre Wealth Partners, highlighted an important reason this can happen.

“The assumption is that spending will naturally reduce over time. However, that is not always the case.”

If spending remains higher than anticipated, large withdrawals early in retirement can affect the long-term stability of an investment portfolio.

Why Do Recently Retired Often Spend More

The transition from a full-time career to retirement can change spending patterns quickly. Without a work schedule, commuting or other professional obligations, retirees often have significantly more discretionary time. That can translate into more travel, home projects, recreational purchases, gifts to children and grandchildren, or long-delayed bucket-list experiences.

The problem isn’t necessarily spending money on these things. The bigger concern is making large financial commitments before understanding how they fit into a sustainable retirement income strategy. A retirement budget based on assumptions that spending will automatically decline can create problems if actual spending stays elevated.

Does Spending Really Decline Throughout Retirement?

Retirement spending can change over time, but there is no guarantee that expenses will simply decline as a retiree gets older. Some expenses may decrease, while others can increase or remain significant for many years.

That makes the first several years of retirement particularly important from a planning perspective.

As Anderson noted, large withdrawals early in retirement can affect long-term portfolio stability. The issue is not simply how much a retiree spends in one year. It is how withdrawals interact with investment performance, taxes, inflation, portfolio allocation and the number of years the portfolio needs to provide income.

When Should Retirement Income Planning Begin?

For executives and other high-income professionals, retirement planning often involves more than determining whether there is “enough” money saved. A comprehensive retirement income strategy should address questions such as:

• How much can we reasonably spend each year in retirement?
• How much should we reserve for travel, major purchases and other discretionary expenses?
• Which accounts should fund retirement spending first?
• How will withdrawals affect taxes?
• How should investment assets be positioned once portfolio withdrawals begin?
• What happens if spending is higher than expected during the first few years?
• How much flexibility should we build into our retirement income plan?
• How will our spending strategy change if markets decline early in retirement?

These questions become especially important for executives with substantial taxable investments, retirement accounts, company stock, deferred compensation, stock options or other forms of concentrated wealth. So, retirement income planning needs to begin before the last paycheck.

Retirement Is About More Than Replacing a Paycheck

One of the most important transitions in retirement is psychological as well as financial. During a career, spending is generally supported by an ongoing paycheck. In retirement, the paycheck may disappear while the portfolio becomes an important source of income. That changes the relationship between spending and wealth.

A well-designed retirement plan should give you a framework for enjoying the freedom retirement provides while also understanding the long-term consequences of your spending decisions. For high net-worth households, the goal isn’t necessarily to spend less. It is to understand how much you can spend, when you can spend it and how those decisions affect the rest of your financial plan.

A Question Worth Asking Before Retirement

• If our spending is more than expected during the first few years of retirement, will our financial plan still work?

Answering that question before retirement can provide a much clearer picture of how much flexibility you actually have once the paycheck stops. When approaching retirement, income planning should be part of a broader financial plan that connects investments, taxes, cash flow, estate planning and the lifestyle you want your wealth to support.

Read the full article in MoneyLion.