According to a UBS UBSN.VX +0.42% Investor Watch study released last month, investors on average sharply underestimate how much of their prior annual income they'll need to live on each year in retirement. Investors say they believe about 60% of their work income should be enough, the study found, far below the standard industry estimate of roughly 78%.
The discrepancy can have far-reaching consequences. Retirees could end up exiting the workforce too early, and years of financial hardship could be awaiting those who miscalculated their retirements needs.
Financial advisers run into skewed expectations all too often, and many say they've developed strategies to help their clients better understand their needs and wants in retirement, and how much they'll ultimately cost.
"Clients underestimate what they need," says Peg Moore, a financial adviser with Wells Fargo Advisors in Ann Arbor, Mich.
When investors think about how much income they will need in retirement, they tend to forget that the net income figure on their paycheck already has taxes and health insurance taken out, she says, and that can be deceiving.
Indeed, many soon-to-be retirees assume that because they're no longer commuting and purchasing clothes to wear at the office, they will spend less. But this is often not the case, says Jonathan Murray, a financial adviser with UBS Wealth Management Americas in Hunt Valley, Md.
To drive this point home, he'll ask clients on what day of the week they spend the most money. The answer, he says, is nearly always the same: Saturday. In retirement, he tells clients, every day can be a Saturday.
To be sure, retirees have different spending needs and desires. Some have zero debt and can easily live on $20,000 a year in income, while some may not be able to get by on $20,000 a month.
As a result, abiding by any specific income percentage--be it 60%, 78% or more--for all investors can be imprudent. Instead, it's important to talk often and early to clients about their spending habits, some advisers say.
"Most people don't want to have a change in lifestyle, a change in standards of living," says Ms. Moore of Wells Fargo. WFC +0.14%
To prevent that from happening, she tries to establish an honest dialogue ("candor without malice") with her clients about their spending habits. She will ask clients to bring in credit-card statements and tax returns, always couching these conversations with the reassurance that there are no "right or wrong" answers.
"People can use anywhere from 50% of income earned to 150%" in retirement, says Ms. Moore, it all depends on their desires. An adviser's job is to make sure this spending jibes with their current savings, she adds.
Bruce Helmer, a partner with Wealth Enhancement Group, an independent advisory firm with offices in Minnesota, says when he takes on a new client, he immediately holds a discussion about the three phases of retirement: accumulation, income distribution and legacy planning. Nearly all his clients have a skewed idea about how much they can spend in retirement, he says, but it's not always about clients thinking they have plenty of money.
"I have clients who live like paupers in retirement because they're afraid of running out," says Mr. Helmer. If those clients are happy with what they're spending, that is fine, he says. But his job as an adviser is to tell them they can afford to spend more.
Some advisers worry that younger clients--as compared with older generations--have even more unrealistic expectations about properly funding their retirements.
"Gen X-ers seem to be not as good as savers or investors as 'the greatest generation' or baby boomers," says Mr. Helmer.
Retirement is bound to look a lot differently than it does today, given that people are living longer and Medicare and Social Security could be reduced, he says. And advisers and their clients must be prepared for that brave new world.
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