I’ve noticed over the many years I’ve been in practice, in general, a common phenomenon about how long people think they’ll live. This comes to mind when thinking about retirement, either before retirement or in retirement. To what age do you think you will live? Try it … answer this question yourself before you read further. What’s your answer?
The phenomenon? People tend to, again in general, underestimate this age. What’s the consequence of this? Over spending now and running out of money before you reach your true longevity. And guess what! There’s a good chance you’ll outlive that age too!
So let’s examine expected longevity. Just what is it? Life expectancy is the expected (in the statistical sense) number of years of life remaining at a given age (the Wikipedia link earlier has a good discussion). A key point is that is depends on a given age – specifically your current age right now. There are other factors to consider and one calculator with good insights into those factors may be found here on a UPenn Wharton website (you can find others by Google search “life expectancy calculator.”
There are a couple of common life expectancy tables. Keep in mind, that tables are subsets of the same population when they are for the same country or region. One is the Social Security’s general population table. Another is the 2000 Annuity Table comprised in general of “healthier” people. Keep in mind that the tables are constantly changing because demographics, life styles, medicines, etc change. It is quite possible that today’s tables understate longevity as a result, especially the younger you are (more time for factors to affect longevity).
Let’s look at a couple tables just to get a general sense of longevity so you have a point of reference in mind when thinking about how much longer your money needs to last (and still have a remaining balance to support income into those future years when you reach that age too). Recall the calculator above may give you a more specific age.
The above comes from the 2007 version of the Social Security table. If you compare the number of years expected to a recent table, you may see the number of years N, or age, growing larger – the aging trend I mentioned earlier. What the figure above shows is the number of years, and expected age, for a female at both expected age (50% may outlive that age) and a healthier female where 30% outlive that age. Notice that at age 65, expectations may be to live to age 86 (depending on lifestyle and health). Yet, at age 85, there may be 7 more years remaining, or more. This illustrates the importance of understanding given or present age mentioned at the beginning.
The next figure above compares the Annuity table to the Social Security table. First notice that the “healthier” population subset have a greater number of expected years remaining (what we would expect) compared to the Social Security “general” population. Secondly, notice that the corresponding percentage of Social Security subset that outlives the stated number of years is less than the expected longevity of the healthier population (again, what we would expect). In other words, in general, about 40% (left side of figure) of the general population may outlive the same time period of the “healthier” population due to lifestyle choices, lack of accidents, etc..
Now, some advisers suggest planning to age 95. I used to too, until I began to look at using these kinds of tables during annual reviews. You may notice that the general population table in the top figure suggests only a small percentage of people may reach that age. The consequences of using age 95, and why I stopped? It reduces how much you may spend today just in case you might reach that age. Instead, I suggest making that spending adjustment over time (click on annual review link in moral of the story below – when you read that far – for more on how this is done).
Moral of the story: Instead of guessing or picking an age you think is too old to imagine (and risk underestimating how long money needs to last you in retirement), anchor your expectations for how long your money needs to last on statistics for the population group in which you belong. And then, update that expectation each year during your annual review because everything changes over time.
Rather than be fearful of outliving your money, embrace uncertainty through a structured process that incorporates uncertainty into decision rules you use to manage your resources. Life is full of uncertainty and forks in the road. Prudently managing retirement money shouldn’t be as foggy as that.
Note: Figures come from our research discussed on my website here.