Should my Consumption spending jump by 14%?
I've recently tried funding (modeled as being funded in 2014) the Reserve Fund and noticed that the Consumption column now has a 14% step increase on the 10th year of the resulting Total Spending page. Consumption is constant before the step and also constant (at the higher step value) thereafter. I've also been modeling several Special Expenditures within the first ten years so I don't know if such a step in Consumption should be expected, although I assume that the point of consumption smoothing is that such a step is probably not expected. Am I correct that such a step should not be occurring?
Tue, 11/18/2014 - 22:16
It is likely that you are
It is likely that you are constrained somehow (income stream / assets / special expenditures / reserve fund / housing / 529 funding / children living at home / etc.) in the first 10 years which is causing these results.
From your comment about the reserve fund, my guess is that this reduces your regular assets and/or income which is part of the constraint. Once this constraint passes, it is not unusual for a higher level of consumption to occur.
Essentially, you will see smooth consumption (technically living standard per adult) within "eras" where you are more constrained and where you are not. However, the levels will not necessarily be the same as you move between "eras". Of course, each profile is unique so there are always variations.
It may be possible to adjust your profile to smooth (or raise) your consumption somewhat although that will vary greatly between profiles.
Wed, 11/19/2014 - 22:37
Thanks for the quick response
Thanks for the quick response.
I’m 64; my wife is 65. We’ve been retired for 3 years; I update the modeling every year based on actual spending, etc., and decided to try modeling a Reserve while I wait to start my Social Security (until I turn 70). We are living off our assets, pension, etc., in the meantime.
I was thinking that if the 14% step increase in Consumption occurred at my age of 70 (when I plan to start SS), that step would then seem reasonable (i.e., more income, more spending). But, assuming that the length of an ESPlanner “era” is 10 years, the timing of the 14% step increase at my age of 74 would otherwise then makes sense.
Anyway, to get back to a consistent Consumption value over our modeled life spans, I’ll probably just reduce Assets/Savings by the Reserve amount I had in mind, thus simply “hiding” that amount from ESPlanner.
Before doing that, I’ll try doubling the Assets/Savings amount to see if the Consumption value then becomes consistent thru-out our modeled life-spans.
Thu, 11/20/2014 - 02:10
Just to be clear, an "era" is
Just to be clear, an "era" is just my trying to describe one time period with "X" constraints that is different from the next "era" with "Y" constraints and produces different levels of consumption / living standard per adult. This could last for a single year or 30+ years. There is nothing special about the length except that it is relevant to your specific profile.
There are probably options besides Social Security and reserves that you can adjust to increase / smooth your consumption. It may be worth your effort to continue to experiment with this. There is another forum thread where we are just starting an "optimization challenge" along these lines. Hopefully a number of people will join in over time and help us learn new techniques to optimize profiles.
Wed, 11/19/2014 - 09:33
Brian's right: you are saving
Brian's right: you are saving now and spending it later. You don't have enough liquid assets in the meantime to smooth you over. Some people might prefer that model, depending on the level of discretionary spending in the near term.
Thu, 11/20/2014 - 15:32
It's kind of hard to assess
It's kind of hard to assess without seeing your report, but Brian's right that it's worth experimenting with. If you set up special expenditures for 10 years that could be the cause. When does the reserve fund stop and those funds come back into your economy? Ten years? that would explain it. Another thing you could do is take special withdrawals from your retirement until the higher SS kicks in. Pretty much anything you can do to postpone SS makes sense because you are trading risky assets (invested money exposed to the market) for non-risky income (Social Security).
Sat, 11/22/2014 - 13:55
With respect to your reserve,
With respect to your reserve, I wouldn't bother. I'm a few years out from retirement but will be in a similar situation. My plan is to consider my retirement savings my reserve, when I get to that point.
I won't have a defined benefit pension but will defer SS until 70. I'd have to adjust my spending after making an unplanned withdrawal, but I'd make that unplanned withdrawal only under duress, and don't have other resources, anyway.
As Brian and Dan responded, you're probably seeing the effects of resource constraints. If you look at the Regular Assets page of the Suggestions section of your report, you'll probably see future years, but before age 70, where the balance is 0.
ESP doesn't handle that very well. Rather than adjust withdrawals to achieve a smooth SOL, it adjusts SOL to reflect its best calculation of smooth withdrawals. You can adjust that but it becomes a game of Whack-A-Mole.
To resolve this, look at your retirement withdrawals on the income report. In the years where Regular Assets are 0, enter special withdrawals that are greater than what ESP takes out. ESP gives you no guidance as to how much it lacks but, once you withdraw $1 more than is required, it all smooths out.
Consider doubling your withdrawals in the 0 years. (It's important to know that special withdrawals replace smooth withdrawals rather than supplement them.) Increasing withdrawals in those years reduces assets available in subsequent years, so your changes have a ripple effect. That's where the Whack-A-Mole analogy applies.
Increase the special withdrawals in 0 asset years until those years are > 0. Once all years are > 0, you have a smooth SOL. Then you can go back and reduce the special withdrawals by the amount that's saved that year, to avoid excess withdrawals and preserve it for next year. Don't reduce it by the entire saved amount. Instead, reduce it by half the saved amount repeatedly until you get close to but greater than 0 saved. Each adjustment has affects on other years but as long as Regular Assets never hit 0, you'll have a smooth SOL.
You may find it easier to just enter a series of consistent smooth withdrawals as demonstrated in a video by Dan.
Back to the reserve fund idea - I might actually be practicing something like that but it's my insurance against market fluctuation rather than unplanned expense. I'll start my retirement with the assets of a reserve fund equal to my planned withdrawal. On paper, the reserve fund drops to 0 immediately before retirement, with those proceeds going to regular assets. I'll take each year's recommended (or special) withdrawal in a lump sum and put it in that fund.
My living expenses will then come out of regular assets, not retirement withdrawals. The reason is to have a couple years' worth of cash in very stable (e.g., MMF and T-Bills) but to invest my retirement fund aggressively. As I'll be more dependent on SS than on retirement withdrawals, that arrangement allows me to benefit from aggressive investment rates while having a buffer fund to weather down years.
Whether or not you agree with my investment strategy, that shouldn't have a bearing on maintaining a reserve fund. Since you can withdraw whatever you want from retirement accounts, whenever you want, it is, in effect, a reserve fund. It would be a bad idea to do that before retirement but, once retired, that's why it's there. No, don't spend it frivolously, but if you need a new roof, it's an option. So is a home equity loan, paid back from your annual income.
Sat, 11/22/2014 - 17:17
Re: reserve fund...it depends
Re: reserve fund...it depends on what it is used for and how it impacts ESPlanner's results. If the user wants some margin of safety and to spend less than the recommendations in the report, a reserve fund is a decent option. Dick Munroe has written about using the results as a "ceiling" for spending decisions and the reserve fund approach can help with this.
However, it can cause issues such as in the original post, excess life insurance needs, etc. One way around this is to not enter the reserve fund at all into the profile and keep the assets "off budget". This way the money is still there, but doesn't distort the calculations. There are other options such as bequests, special expenditures/receipts, etc.
My preferred approach is to create an explicit "safety factor" using the standard of living fields in the assumptions tab. This is very flexible and seems to have fewer issues than other approaches. Basically set your last few years to a very high standard of living. This forces the program to reduce consumption in earlier years and preserves assets for late in life. This can also be used to create different safety factors ($ or %) at different points in time.