Expense Pyramid

When planning for retirement, it’s easy to think about our dreams: travel, a second home, a new car or RV… But we often forget to first determine what our NEEDS are going to be versus our WANTS.

 

We like to use an Expense Pyramid to differentiate between types of expenses:

  • NEEDS – are compulsory expenses, ones that are required as a part of living. Needs-related expenses include food, housing, utilities, transportation, insurance, healthcare and taxes. Most of these are fixed costs and can be planned, although there may be some variance from month to month.
  • WANTS – are discretionary expenses, ones that may contribute to overall comfort or standard of living, but do not qualify as required for living. Included in Wants-related expenses are hobbies, travel, entertainment, gifts, second home, and other “toys” or large purchases sometimes associated with retirement.
  • LEGACY – includes the transfer of wealth to others. A financial legacy can be left for family, or perhaps to a favorite charity. Legacy-related expenses don’t have to be large sums of money and may simply include any retirement savings that gets transferred in a will or through an estate.

 

So how much will these expenses total in your retirement? That’s hard to say. It’s certainly much easier to anticipate the costs of Needs-related expenses. In fact, in 2008, people aged 65 and over spent an average of $30,500 on Needs-related expenses—not including taxes. And while we have much more control of Wants-related and Legacy-related spending, we must make certain we plan well for our Needs-related expenses.

 

As you create your retirement spending plan, if being able to experience your Wants and leaving a Legacy are important to you, you must plan for those too. If you have looked forward to a long cruise as a retirement reward, be sure you include that in your planning and set aside enough money for the trip. If leaving a sum to your children is important, make sure your advisor is aware of your wishes.

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