Smoothing Your Consumption

Uncle Sam provides three tax breaks for clergy, which makes their planning more complicated than for laypeople. This case study points out the four major ways clergy are advantaged by special income-tax, Social Security-tax treatment, retirement account, and housing provisions. The study also indicates how to include each factor in ESPlanner.

So if you are a member of the clergy, this case study can help you use our software. And if you haven’t used it already, you can for free! As a public service, our company provides clergy of all denominations with free copies of ESPlannerPLUS, including the ability to run updates for three years for free. Just send an email to Kotlikoff@gmail.com and we’ll set you up. Our hope is that you’ll benefit from the software and also let your congregants know of its value and that they should visit www.esplanner.com.

“Consumption Smoothing” is a coinage only an economist could love. But like it or not, it's something we all do on a routine basis in our short-term economic lives. If we get paid once a month, we try to budget to spend the same amount each week. I.e, we try to maintain a stable living standard per household member.

Surprisingly, we rarely apply this same common sense approach to our long-term economic lives. If we have assets, labor earnings, asset income, future Social Security and pension benefits, retirement account withdrawals, mortgage payments, and other planned expenses, why don’t we smooth our living standards across years, not just weeks and months.

across all the present and future asset and income and all those changes in “off-the-top” expenses so that discretionary spending per household remains constant each year over the rest of our lives?

The financial press likes to review online planning calculators and compare results. USA TODAY recently ran this review comparing free calculators at Choose to Save, T. Rowe Price, AARP, and Principal Financial Group.

The context is the 2008 stock market. The question they ask in this case is, "Can you still afford to retire?"

“Some of the people I know lost millions,” he later wrote. “I was luckier. All I lost was two hundred and forty thousand dollars. I would have lost more, but that was all the money I had.”
—Groucho Marx, 1929

Danilo and Gina Perez live in New York City. They are 30 years old and plan to have a child in five years and retire at 65. They are both busy bees with a typical, but also highly complex economic life. They want to have a stable living standard per household member over time, but don’t know how much to spend each year to make this happen.

Young Justin Thyme left Holland, Michigan and made off for Chicago, degree in hand, ready to make his way in the world. It took a few years to get on his feet, but at 33, he found himself making $50,000 per year and loving the big city. He also found himself pondering his economic future.

There are lots of ways to spend money in the Second City, and Justin has yet to save a penny for retirement. This is making him nervous. It should.
ESPlanner can show Justin the consequences of saving nothing, saving outside a retirement plan, and saving through his employer’s 401(k).

Traditional financial planning is replete with “rules of thumb,” none of which provides a reliable basis for financial planning. No rule of thumb is repeated more often than the proposition that you need to target your retirement spending at 75-85 percent of your pre-retirement income. Some planners suggest you target to spend in retirement 100 percent of your pre-retirement income.