EBRI Study Reveals Costs That Could Create Income Deficit in Retirement

The Employee Benefit Research Institute (EBRI) has just released an EBRI Issue Brief “Spending Patterns of Older Households,” presenting “a cross-sectional analysis of spending patterns for different demographics and labor market statuses instead of age and focuses on whether households limit their spending to their income as defined in the HRS.”

Using data from the National Institute on Aging’s Health and Retirement Study (HRS) 2014 and the Consumption and Activities Mail Survey (CAMS) 2015—a supplement of the HRS—the Employee Benefit Research Institute (EBRI) found, for single and retired individuals in 2015, average spending was $5,178 lower than average income, resulting in a spending-to-income ratio of 86%. However, a household in this category had a median spending rate higher than median income—by $2,812—resulting in a spending-to-income ratio of 112%.

EBRI notes that the latter was the only demographic for which overspending was true. Whether respondents were single and in the labor force, married and retired, or married with at least one individual in the labor force, spending-to-income ratios were well below 100%. Households headed by couples had lower spending-to-income ratios than did those headed by singles—most likely due to economies of scale in consumption and the possibility of two income earners present.

Married couples with at least one member working had the lowest spending-to-income ratio among the four groups, with an average of 45% and a median of 57%. Retired couples had an 80% spending-to-income ratio on average and a median of 86%.

EBRI found housing expenses were by far the largest item in all groups’ budgets. For the average single retired household, housing-related expenses accounted for 48% of total expenditures. In contrast, their couple counterparts allocated 7 percentage points less of their total spending to housing in 2015. Retired households spent slightly more on health care compared with the households of those in the labor force.

It has been shown empirically, and not surprisingly, that health expenses grow steadily with a person’s age. For example, EBRI’s research shows that, in 2011, households with at least one member between ages 50 and 64 spent 8% of their total budget on health items, compared with 19% for those 85 or older. In addition, the share of total spending used for out-of-pocket health expenses was second largest for those 75 and older.

The probability of having a budget deficit in retirement has a positive correlation with catastrophic medical expenses. Those who spent 20% or more of their income on medical expenses, 85% experienced a budget deficit, while of those who spent 5% or less, only 20% experienced a deficit.

EBRI cites the income replacement approach typically used to help determine whether a person is on track for adequate retirement savings: To maintain financial well-being in retirement, one’s income should be 70% to 80% of his final-year salary. This approach assumes that households will need less income in retirement than during the employment period, as costs for transportation, housing, and even food, plus other work-related expenses, might be reduced. Its findings support that reduction in housing and transportation expenses for retirees relative to those in the labor force. However, food costs and health expenses are higher for retirees.

EBRI says these observations could merit a different approach for measuring retirement income adequacy, as well as further research where a longitudinal analysis is used to assess the changes in spending allocations before and after retirement.

Previously, EBRI found that retirees of all savings levels are slow to spend down their assets, which could mean that retirement readiness should be measured differently or that more education is needed to help retirees with a spend-down strategy.

According to EBRI, it should be noted that having greater expenditures than income does not necessarily mean these households cannot afford their expenses or that they have run out of money. Most households have positive asset holdings, which can be tapped to bridge the gap between income and expenditures. They may also have a type of income source not mentioned in the HRS definition of total income. Therefore, EBRI’s figures provide a rough estimate of the percentage of households without regular sources of income sufficient to finance their spending in the year under observation.

Again not surprisingly, the share of low-income households with deficits is larger for those lacking regular pension/annuity income that those that have such income; having a regular stream of pension/annuity income seems to have a positive impact on budget management of low-income households. In contrast, regular pension/annuity payments in high-income households are associated with higher probability of a budget deficit. This could be an indication of having other means not included in the HRS definition of income to finance their expenses.

Information about the latest EBRI research is here.