Retirement on a Budget

One of the most vexing challenges in financial planning is telling retirees they can't spend money like they used to when they were working.

Planners have devoted years of research to this thorny question. More than anything, Baby Boomers' spending will determine whether they will outlive their savings.

The good news is retirees now have a good chance of living 30 years in retirement because of better health. The bad news is retirees will be disappointed to learn that because of increased longevity they can't afford to spend as much as they thought, especially in the early years of retirement.

Many researchers on the subject come to the same conclusion: Retirees shouldn't withdraw more than 4% or 5% annually from their retirement savings, at least initially.

But let's be honest: Who wants to tell a retiree with a $1 million portfolio that he shouldn't spend more than $40,000 a year? During the boom years, this kind of exercise didn't win financial planners many clients.

But Carole Peck, a financial planner in Bonita Springs, thinks retirees are ready to face a more frugal future. She has detected a change in attitude since the recession started. “You have to look at what's going on in the market,” she says.

Peck's practice is unusual because financial planners have traditionally tiptoed around spending recommendations for fear of alienating their clients with potentially draconian recommendations. She tackles the challenge head-on with a process she calls the “sustainable retirement experience.”

Peck makes conservative assumptions about such things as market returns and inflation looking out five years. Then she extends those assumptions out 30 years and applies various spending levels to show clients how they might outlive their savings if they spend too much.

The key is to help retirees get out of what Peck calls the “naïve-spending” trap. This is when retirees overspend with the mistaken belief that their portfolio can carry them through decades of retirement, or that they might inherit a big sum or they'll be able to sell their home at an inflated price to fund their lifestyle. By the time they realize their overspending mistake, it's too late.

Peck, president of Carole Peck Financial Center and the independent representative of broker LPL Financial, acknowledges this isn't an easy exercise. Some clients weep when confronted with the spending reality.

Financial planners must be compassionate and diplomatic, especially when recommending spending cuts for retirees who are used to a certain lifestyle, Peck says. Of course, some retirees have been so scared by the downturn they cut back too drastically and can safely afford to spend more.

But Peck says most retirees may be ready to face tough spending choices because of the recession. And personal-finance publications are writing about this issue because their Boomer audience is worried. “They're reading a whole lot more,” says Peck, who recently had a client ask her about the 4% spending rule of thumb.

To be sure, there's plenty of competition from traditional brokers and mutual-fund companies such as Vanguard and Fidelity that offer sophisticated retirement-spending calculators. “The way we compete is we're a boutique,” Peck says, providing customized advice.

Peck says the title of a spending-cut plan she drafted for a client sums up her approach: “Loving life on a budget.”