Humans aren’t wired to make rational decisions. Our lizard brain, responsible for satisfying all of our primitive survival needs – including safety, hunger and feeling as good as possible at all times – sabotages our behaviour every day. And it can sabotage our bottom line, too.
Lizard brain makes us do the same things – good or bad – over and over again so it’s the king of bad habits. If you’re chronically late to make payments on your credit card or always forget to transfer money to your savings account, your lizard brain could be to blame. That said, you can counter its reluctance to change its well-worn ways of doing things by automating your personal finances as much as possible. This blocks the lizard from making poor spend-or-save decisions.
Tricking Your Lizard Brain
First, make an unbreakable habit of paying yourself first. This is a powerful strategy that treats your savings like a high-priority fixed expense that automatically gets whisked away from your bank account on or around payday. The idea is that you’re more likely to stick to your plan when you make savings automatic.
Imagine if the government, instead of deducting federal and provincial tax from each paycheque, simply asked employees to send in a lump-sum payment at the end of the year. There’s a reason why government automatically deducts taxes from your paycheque – to make sure it gets paid!
So follow suit and pay yourself first through automatic contributions to your RRSP, TFSA, RESP or other savings vehicles and trick your lizard brain into thinking that money was never there to begin with.
Another tricky thing about the lizard brain is that it makes us act emotionally and live each day as if it were our last. Think of it as the original proponent of YOLO.
That impulse shows up in many of us when we’re shopping and can be exacerbated if we’re paying with plastic. Research shows that using a credit card activates the rewards centre of our brains, causing us to spend more. There’s also the pain of paying – we tend to feel more pain when we spend cash than we do when we use a card; therefore we’re less likely to part with a dollar bill.
Credit-card rewards can be enticing, however not at the expense of missing a payment and turning your 2% reward into a 19% penalty.
So what’s the rule? Use a credit card for recurring monthly payments such as your cellphone bill and Netflix subscription. The steady activity helps build your credit rating. Then arrange to have the full balance automatically debited from your account each month. Use cash for groceries, gas and entertainment – all the things the lizard badly wants – that you can’t automate and need to stay in control of.
Also be aware that lizard brain can be baited. Marketers are well practiced at using psychology to lure that part of our brain into making irrational decisions, constantly tempting us to spend money.
Use what behavioural experts call a commitment device – something you do today that restricts bad behaviour in the future. Ubiquitous examples include freezing your credit cards inside a block of ice to avoid an impulsive shopping binge, or not bringing junk food into the house when you know you’ll go on a late-night pantry raid.
A weekly meal plan can be a commitment device if it prevents you from getting takeout after work. See, this is easy!
As for me, my lizard brain springs to life whenever my wallet is flush with cash. Apparently I turn into Mr. Generosity, over-tipping at restaurants, buying drinks for friends, giving in to my kids’ impulsive requests. It’s really quite pathetic.
My wife smartly suggested I stop carrying cash and simply use my debit or credit card when we go out. Hey, that’s a great commitment device, honey! But then when I pointed out all the money she could save by removing the Lululemon app from her phone, her cold stare nearly sent my lizard brain back to the ice age!
Investors often look to rules of thumb or mental shortcuts to help guide their decision making. Unfortunately, there aren’t many good rules of thumb that can help determine how much you will spend in retirement.
The 4% safe withdrawal rule, while a decent starting point, is not particularly useful. For one, investors don’t just have one pot of money labeled ‘retirement income’ that they draw from. We have RRSPs and RRIFs, LIRAs and LIFs, TFSAs, and non-registered savings and investments, each with different withdrawal rules and taxation. We may also have pension income, along with CPP and OAS benefits, to consider.
On top of that, life doesn’t just move in a straight line. We often have lumpy one-time expenses such as buying a new vehicle, renovating our home, gifting money to children, and spending on bucket list experiences throughout retirement.
It’s also the sequence of withdrawals that matters – how all of those puzzle pieces fit together over the years to create a tax efficient retirement income for your lifetime. That means a strategy of targeting a specific number, say $1M, in savings and investments and expecting that will pay you exactly $40,000 per year (rising with inflation annually) might fail to meet your spending needs in retirement.
Then there’s the percentage of income rule for retirement income – commonly cited as 70% of your final average pay. This rule assumes you’re no longer saving for retirement, kids have moved out of the house, and the mortgage is paid off. But what about single Canadians? Couples with no children? Lifelong renters?
Retirees who had a high savings rate throughout their careers may only spend 40-50% of their final average pay in retirement to maintain their standard of living. That’s because they may have saved 20% or more of their income, paid a high average tax rate, and don’t carry any debt. Assume they’re no longer saving, paying off their mortgage, spending on their children, and can benefit from income splitting and overall lower tax rates in retirement.
On the other hand, lower income earners who are lifelong renters may not have been able to save as much throughout their careers, but could easily spend 80% or more of their final average salary simply to maintain their current standard of living. Their tax rate may not change that much, so aside from no longer paying into CPP/EI their expenses would largely be the same.
Finally, you’ll need to consider your human capital and how long you plan to earn an income from employment (either full-time or part-time as you ease into retirement).
All of these nuances mean it’s essential to have a retirement plan – one that looks at your unique circumstances and doesn’t blindly follow rules of thumb.
I can say after working with hundreds of retirees it’s clear that the best predictor of your future spending is what you’re currently spending. Indeed, most of my retired clients want to maintain their existing standard of living, if not enhance it slightly for extra spending on travel and hobbies. An added bonus is if they can have a pot of money left untouched for unplanned spending shocks, one-time expenses, and healthcare challenges (often the TFSA, but mostly it’s their untapped home equity).
Another useful tidbit I’ve noticed is that for most retirees who have the ability to significantly increase their lifestyle, many just cannot bring themselves to do it. Call it a scarcity mindset, or just decades of practiced frugality, but it’s almost impossible to turn the spending taps on full blast after a lifetime of saving.
That’s useful because for those in their savings years now, thinking they’ll live on less today in order to live large tomorrow, it’s unlikely they’ll actually be able to bring themselves to do it. Better to allow yourself some lifestyle creep now and throughout your career so you can enjoy the journey.
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On the topic of saving for retirement, Fred Vettese shows how hard it is for regular Canadians to save enough to retire at age 60.
A Wealth of Common Sense blogger Ben Carlson explains why you probably need less money than you think for retirement.
PWL Capital’s Ben Felix explains why cash, even at 5%, is extremely risky for long-term investors:
If you’ve been using (or thinking about using) one of the Horizons’ all-in-one ETFs in a taxable account to avoid annual investment income, note these important changes to their funds. They’ll now look more like the Vanguard, BMO, and iShares’ versions and pay taxable income.
What are the world’s best performing stock market indexes right now? Andrew Hallam shares why you don’t want to chase the latest winners.
The always brilliant Morgan Housel compares the difference between intelligent and smart.
Fee-only financial planner Anita Bruinsma has a thoughtful post on managing our weaknesses.
If the media covered elevators like they cover the stock market, they’d re-name the up and down buttons as “soar” and “plunge”. Here’s Preet Banerjee on why we, and the media, have a fascination with market bears and their predictions:
You might be surprised by these reporting requirements – and tax breaks – on your interest-bearing investments like bonds and GICs.
Why do these investors want their portfolios to drop?
“Steve owns a globally diversified portfolio of index funds. For him, market drops are like low ocean tides. They are temporary. But they allow him to scoop additional ownership in thousands of companies with a lot less effort. It’s like plucking salmon or tuna from low tidal pools.”
Why everything and everyone underperforms, eventually.
Looking for travel deals? If you’re flexible on when or where you go, these tools can help.
Why couples should consider co-mingling their finances. Research shows that couples who merge their money are more likely to be happy and successful.
A good summary by Cullen Roche on the future of inflation and interest rates.
Finally, is this the most unaffordable time ever to buy a house? Not according to one metric (subs).
Have a great weekend, everyone!
Some of my younger clients are concerned they might be over-saving. I think they might be onto something.
I have the unique perspective of having written hundreds of retirement plans over the last eight years. One common theme is that retirees who had a high savings rate throughout their careers are rarely able to flip the switch from savings mode to spending mode.
Imagine you spent $50,000 per year after-taxes during your working years, while consistently saving 25-30% (or more) of your income. In retirement, it becomes clear you can safely spend up to $100,000 per year without ever worrying about running out of money.
Could you do it? Could you double your spending in retirement and enjoy the fruits of your labour? I’d argue most can’t (or won’t).
What if, instead of spending $50,000 per year throughout your working years for the chance of spending up to $100,000 per year in retirement, you spent $75,000 per year throughout your entire lifetime (adjusting annually for inflation)?
Economists call this consumption smoothing. I call it maximizing your life enjoyment.
Think about it. You save and invest for the future, but when it comes time to spend the money you can’t bring yourself to do it. You’ve never exercised your spending muscles.
Instead of living your dream retirement you continue saving, maxing out your TFSA annually and taking your minimum RRIF withdrawals and putting the money into a non-registered account (just in case).
My younger clients are starting to see this happen with their own parents. Heck, my older clients know it happened with their own parents.
How do you know you’re over-saving? A big clue is if you’ve maxed out your registered accounts and start asking, “what’s next?” with your extra cash flow.
Instead of blindly shovelling money into a taxable account with no purpose, consider increasing your spending on one or two categories that are important to you. Start exercising those muscles so that when you get to retirement you’re not sitting there with millions of dollars asking, “what’s next?”.
I’m far from a YOLO practitioner. We need to strike the right balance between spending now and saving for the future. But the future is never promised.
If you have the means to enhance your life enjoyment while still saving a reasonable amount for retirement, I say go for it.
After all, my anecdotal evidence suggests you probably won’t increase your lifestyle spending in retirement anyway (you certainly won’t double it). A modest increase in spending now, sustained throughout your lifetime, can lead to better overall life satisfaction.
This Week’s Recap:
This is the longest I’ve gone without updating the blog, but we’ve been away travelling for the past few weeks. Our third trip to Scotland was absolute magic. We spent four nights in Edinburgh, five nights in Fort Augustus, and another two nights in Glasgow.
We rented a car in Stirling so we could drive through the Scottish Highlands and out to the Isle of Skye. We lucked out with some incredible weather on Skye, and enjoyed our stay at the south edge of Loch Ness.
Before our travels, we shared a monster post on probate, including how to avoid or reduce probate fees and whether you should even try.
Many thanks to Erica Alini for including that post in her Carrick on Money round-up.
Morningstar’s Christine Benz on her failings as an investor – do as I say, not as I do.
PWL Capital’s Ben Felix answers the question, will more money make me happier?
Reddit’s Personal Finance Canada community offered advice on whether it makes sense to pay down a mortgage earlier, especially with high interest rates.
High interest rates mean the new normal in vehicle buying is a monthly payment in the $1,000 range. Gross.
Single and stressed? Squawkfox Kerry Taylor offers financial advice when flying solo.
Cullen Roche explains why 2023 is the year that gives everyone a narrative.
Retirement without home ownership is possible. Financial advisers explain how to get started.
Financial planners tend to use inflation or inflation + 1% when projected future wage growth. That’s not quite right. PWL Capital’s Jordan Tarasoff looks at how Canadian incomes change with age.
A look at the return on hassle spectrum when it comes to investing. Count me as a hands-off, no hassle type of investor.
Ben Felix explains structured notes and says when you’re having dinner with lions make sure you’re at the table and not on the menu. Point taken:
My Own Advisor Mark Seed says to watch out for RRSP / RRIF taxation.
Norm Rothery catches up with the retirement class of 2000 (subs).
Michael Batnick on the cruel irony of investing:
Investors: “The market feels risky right now. I’ll just park my money in this high-yield savings account earning 5% and wait for the dust to settle.”
Stock market: LOL
A Wealth of Common Sense blogger Ben Carlson says everyone has their own money trauma.
The Evidence Based Investor asks, do you have enough money already?
Finally, Jaclyn Cecereu does a terrific job breaking down CPP contributions and benefits.
Enjoy the rest of your weekend, everyone!