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Many people have dreams of traveling, giving back, and spoiling grandchildren as they look forward to retirement. Whatever your retirement dream may be, you need to plan accordingly. 

Someone who intends to volunteer and complete puzzles in their free time will have lower expenses than someone who wants to travel the world. You need to plan for those expenses no matter what your ideal retirement may look like.

That means understanding what your needs are in terms of mandatory and discretionary retirement income.

Your retirement goals will dictate how much you should save and what kind of planning you need to do.

Many people consider the bare essentials when thinking about costs in retirement. However, they sometimes overlook the discretionary retirement income and spending that supports an enjoyable and fulfilling experience. Discretionary spending can have a huge impact on your retirement savings plan

What is Discretionary Spending?

Broadly speaking, discretionary spending is any expense that is not required to cover basic, essential needs. That means it’s a broad category, and can differ greatly from one individual or couple to the next. It can be contrasted with mandatory spending, which is required to ensure that you live a healthy and safe lifestyle.

At its very basic level, discretionary spending includes “wants,” but mandatory spending items are “needs.” Common discretionary spending examples that you might see in retirement include things like:

  • Donations and gifts
  • Expenses related to hobbies
  • Travel expenses
  • Entertainment expenses

Generally, anything that requires “fun money” is likely considered retirement discretionary spending. The same holds true during your time in the workforce as well.

What is Mandatory Spending in Retirement?

Mandatory spending is sometimes referred to as “essential spending.” It includes any item or service that you must pay for to survive — essential living expenses. Mandatory spending can be easier to define and measure on a personal level than discretionary spending. There simply isn’t as much variation in foundational needs as compared to the very broad category of discretionary spending.

Expenses related to your “four walls” are included in mandatory spending. These include things like:

  • Mortgage/rent payments
  • Utility payments
  • Food
  • Insurance expenses
  • Transportation expenses
  • Medical or healthcare costs

You also need to consider necessary payments that you may not have had before retirement, such as increased tax obligations (in some cases). If you have any debt by the time you retire, you will need to account for those expenses in retirement as well.

How Can Discretionary Costs Affect a Retirement Plan?

In 2019, Forbes reported on a study that examined the true costs of retirement. Their study found that those planning for retirement are poor estimators when it comes to predicting what kinds of costs they may incur.

For example, 46% of respondents estimated that their housing costs would go down in retirement. In reality, only about 30% of retirees will spend less on housing in retirement compared to when they were working full time.

Unfortunately, discretionary spending in retirement is sometimes forgotten or severely underestimated in retirement planning calculations. Failing to account for discretionary spending can leave your retirement savings severely underfunded if you expect to live the same type of lifestyle as before retirement.

In other words, you may have enough money to cover basic necessities — mandatory spending — but not the funds needed to make retirement enjoyable. Only having the ability to satisfy basic needs does not lead to an enjoyable or truly comfortable retirement.

For some, discretionary spending may stay relatively stable. However, for those who want to carry out big plans of travel or charitable giving in retirement, for example, their discretionary spending may go up. This spending increase may not last for your entire retirement period, but it might be a big part of it.

The Discretionary Retirement Spending Stages

Discretionary spending may spike just before or just after retirement. After all, you have worked hard for your retirement. Spending the money you’ve carefully saved and invested for house upgrades, gift-giving, and trips, is all very new and exciting.

Many retirees will spend significant amounts of money on whatever they think is appropriate during this active stage, increasing discretionary retirement income needs. It’s especially important to consider future plans and special projects, not only your standard spending habits, when planning for retirement.

As the “newness” of retirement wears off and retirees become less active, they are less likely to spend as much money. In the later years of retirement, funds often need to focus on medical needs, so discretionary retirement spending slows significantly.

How Can I Create a Budget That Considers Discretionary Income in Retirement?

You should be able to review your current expenses to have a good idea of your continued essential budget items in retirement. However, your discretionary spending could change dramatically after you retire. That’s often because you now have the time to take up the expensive hobbies that you have always wanted to do.

The first step in creating a budget that considers discretionary retirement spending is to decide what discretionary spending categories you may have. Think through how often you will want to travel and where you will go, for example. Consider what kind of gifting you want to do on a regular basis. What kind of funds will you need to pursue hobbies and other interests?

Once you have this basic information, you can start making cost estimates for these goals. These estimates will become part of your regular budget in retirement (yes, you should still budget in retirement).

Consider an example. Imagine that you want to take at least one relatively lavish trip each year in retirement. You would also like to take several shorter trips throughout the year as well.

Based on what you have in mind, the cost of the big trip will likely be around $5,000-$10,000. The shorter trips will be $1,000-$3,000 each. Based on this retirement goal, you will need an extra $7,000-$14,000 every year in retirement.

While making accurate estimates is important, there is no way that you can realistically plan discretionary retirement expenses, or your estimated discretionary retirement income, to the penny. The critical aspect of this type of planning is that you pick a number that makes sense for you and your situation, and you stick to it during retirement.

Get More Guidance on How to Properly Plan for Retirement

Simply understanding how much you need in retirement is a good start. However you also have a lot of work to do to plan and put that plan into action. The sooner you start, the better. More time makes it easier to plan, save, and invest, as well as make adjustments as your interests, preferences, and financial circumstances change. 

Dechtman Wealth Management wants to help you start the retirement planning process with their free e-book resource, “Plan Your Retirement Income in 5 Steps”. This resource takes the daunting task of planning for retirement and makes it more manageable. This planning guide breaks retirement income planning down into manageable action steps that you can work through, including a review of discretionary vs. non-discretionary spending.  

This resource covers mandatory spending, discretionary retirement spending, and creating financial goals along with a discretionary retirement income personal budget. Download this free resource here.

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Sam Dechtman

As a wealth advisor at Dechtman Wealth Management, Sam is committed to always doing what is best for the client. Sam began his career working at large international asset manager in Chicago assisting clients with investment analysis, portfolio construction, and retirement income strategies. During that time, Sam would receive the CERTIFIED FINANCIAL PLANNER™ designation, signaling mastery in all areas of financial planning.