The danger of underspending in retirement, and why you need to avoid it

The run-up to Christmas has always been associated with spending money. Presents, food, and entertainment can all put a strain on your monthly budget at this time of year.

Indeed, the Bank of England estimates that people spend 29% more in December than in other months.

Overspending can clearly be injurious to your financial health. Because of this, it’s important to budget, and to have a plan in place to restore your financial equilibrium in the new year.

However, there are occasions when the reverse can be an issue and you do not actually spend as much money as you could do.

For example, while spending too much money in your retirement is a common fear, it’s easy to struggle with the opposite challenge, and actually spend less than you potentially could.

Read on to find out why and what you can do if you’re too frugal in retirement.

Retirement involves a switch from a saving mindset to a spending one

One of your primary financial aims during your working life is likely to have been wealth accumulation, with particular emphasis on saving for your retirement through your pension fund and other assets.

Then, as you get closer to retirement, your priorities are likely to change as you start looking ahead to stopping work.

At this time, you will clearly be assessing your income options, and coming to terms with the fact that you will no longer be earning a regular income. Instead, you will start to live on your accrued wealth.

It is perfectly understandable if you have concerns about running out of money. Indeed, a survey published by Which? suggests over half of people in the UK over 55 fear just that.

Clearly, you will need a robust income plan in retirement to ensure that doesn’t happen.

But it is also important to ensure that you spend enough to live comfortably in retirement and not deny yourself some of the pleasures that you can actually afford but perhaps don’t believe that you can.

The dangers of underspending

By not drawing enough income from your pension fund once you have retired, you run the very real risk of not enjoying the retirement you have worked hard for.

You may have perfectly valid reasons for believing that you need to live a life of frugality.

These could include:

• The fear of outliving your accrued wealth
• The desire to leave a substantial legacy for your family
• The belief that you should avoid substantial outlays of money.

However, with effective retirement income planning it should be possible to allay these fears.

For example, you may be putting too much emphasis on wanting to leave money to your beneficiaries. In reality, it is very likely that your children would be alarmed to learn that you were putting their inheritance over your own quality of life in retirement.

Furthermore, from April 2027, most unused pension funds will form part of your estate when assessing if Inheritance Tax is payable. This means that your reluctance to use your pension savings to provide you with an income could result in your beneficiaries facing a substantial tax bill from HMRC.

While I appreciate that I have a vested interest in stating this, I would point out that effective financial planning can help address all three of those points.

With a robust plan in place rather than leaving things to chance, you can increase the chances of being able to live comfortably in retirement. Subject to the value of your assets, you can also give yourself the best chance of being able to leave a legacy for your family.

How financial planning helps give you the confidence to spend

One of my big challenges as a financial planner is answering the question: “Are we going to be ok?”

You can read more about it in a previous article I wrote.

To my mind, this epitomises why financial advice and planning for your financial future is so important. A key part of giving you the best chance of a positive answer to that question is through effective financial planning during your working life and then careful assessment of your income and investment options after you have retired.

It’s very much an evidence-based process that considers important factors such as:

• The value of your pension fund and other accumulated wealth
• Your spending patterns now and in retirement
• An analysis of anticipated outgoings and one-off events.

With all this information to hand, I can then help you put a sustainable income plan together. This will help to reduce the chances of you running out of money, so that you’ll feel secure enough to spend a comfortable amount.

We will also work to create an effective investment strategy to help maximise the value of your wealth.

It’s vital for you to appreciate the importance of spending

Clearly, how much income you will need in retirement is a subjective view. However, one point I will always talk through with you is the importance of being able to differentiate between what I see as good and bad spending.

I’ve previously written about the idea of dying with zero based on the argument that if you can’t take it with you, why leave anything?

Clearly, this is not an endorsement of a “spend, spend, spend” outlook where you are simply frittering away your money for the sake of it.

But a lot of spending can actually be positive. For example, money you spend on home improvements can enhance the value of your asset and reduce future maintenance costs.

Likewise, gifts you make to your children and grandchildren while you are still alive, rather than as a legacy, will be gratefully appreciated. Furthermore, you will get pleasure from seeing your gift be put to good use.

Get in touch

If you would like to talk about your own financial plan or any of the issues raised in this article, please get in touch.

You can call me on 07769 156 250.

Please note

This blog is for general information only and does not constitute advice. The information is aimed at individuals only.

Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.