In practice we may add to our savings if we receive an inheritance, and we may want to leave bequests in addition to providing for life after full-time work. In this post we look at how to accommodate those aspects.
There’s a potentially large source of assets for retirement that I haven’t mentioned yet. It’s inheritances. There’s a reason why. But first, let me give you some American statistics I found, to demonstrate their relevance. They apply specifically to the “baby boom” generation (those born between 1946 and 1964), but the amounts involved are about the same order of magnitude (after adjusting for inflation) as the amounts received by the preceding 1927-1945 generation, so the Boomers are not an unusual generation in this regard.
The headline number sounds huge: American Boomers will inherit over $8 trillion. But the aggregate is meaningless on its own. It tells you nothing about the impact. Here’s the impact. It’s estimated that two-thirds of all Boomer households will receive something. The higher a household’s income, the more likely they are to receive an inheritance, but even among the Boomers with the lowest income, more than 50% will inherit something.
The study says: “Most Boomers will receive their inheritances in middle age, reflecting a pattern in which wealth passes from parents to children on the death of the surviving parent.” Most inheritances are received from parents, with grandparents as the second most common source. Some transfers do occur, however, while the older generations are still alive. Dr Statman uses the lovely phrase “It is better to give with a warm hand than with a cold one,” pointing out that waiting until death deprives the giver of the joy of giving.
The lower the income, the bigger the impact the inheritance is likely to have. The Boomers with the highest income will receive the most, but they already have their own wealth, and their inheritances add proportionately less than the inheritances of the lower earners. For low earners, the average inheritance of $27,000 will mean much more, representing roughly two-thirds of their wealth.
If it’s that significant, why haven’t I mentioned it yet? For the same reason that the study’s authors add this warning: “Regardless of the anticipated amount, any prospective inheritance is uncertain. Parents or grandparents who expect to leave a bequest may revise their plans based on fluctuations in their asset values. Or they may exhaust their wealth as a result of medical costs or long lifespans. In short, Boomer households should not count on an anticipated inheritance to eliminate the need for increased retirement saving.”
Nevertheless, if you want, you can use the forthcoming personal funded ratio calculator to make your own estimate of the impact an inheritance of whatever amount, to be received on whatever future date, would make to your funded ratio. Or get an expert to do the calculations. Either way, just remember the warning.
Now let’s think about the possibility of your own giving: your planned, or hoped-for, bequests, whether to your family or as philanthropy. Regardless of whether they are given with a warm hand or a cold one, the amounts involved won’t play a part in your own retirement finance. I’ll let you think through what your plans are. Right now the down-to-earth question is: what effect will this giving have on your funded ratio?
I’ll deal broadly with three financial situations. If your plans are more detailed, an expert can help you take the nuances into account in calculating your funded ratio.
- Suppose you want to leave “whatever is left after we pass.” Well, that’s the easiest to take into account. You simply ignore it, because your own lifestyle comes first and is unaffected by your bequests.
- Suppose you want to leave a specific asset that you own today, together with any accumulation that it generates. That too is easy to take into account. Simply leave it out of the assets that you consider in your personal funded ratio calculations. In effect, you’re saying this isn’t really part of your assets. It’s as if you’re giving it away today. (In which case you might consider Dr Statman’s warm/cold hand thoughts.)
- A tougher situation to deal with accurately is if you want to leave a specific amount on passing, and you have no idea how much it’s worth today, given the uncertainty surrounding the time of your passing. One logical but unorthodox way to deal with it is to take out a second-to-die insurance policy, which pays the exact amount on the second passing of a couple. That solves the bequest issue, and the expense of the premium becomes part of your spending pattern while you’re around.
Beyond those three situations I have no general rules, and suggest that you find appropriate expertise to take your desires into account.
Oh, by the way, thanks for your patience. I hope to unveil the calculator next week.
Inheritances are likely to play an important part in every generation’s retirement funding. But they come from other people’s desires, so it’s difficult, if not unwise, to take them into account explicitly in planning for your retirement. Bequests, on the other hand, arise from your own desires, and there are ways of accommodating them in your financial planning.
 Munnell, Alicia H., Anthony Webb and Zhenya Karamcheva. “Inheritances and wealth transfer to baby boomers: a study by the Center for Retirement Research at Boston College for the MetLife Mature Market Institute.” The MetLife Mature Market Institute, Westport, CT, December 2010.
 Statman, Meir. Finance for Normal People: How Investors and Markets Behave (Oxford University Press, New York, NY).
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I have written about retirement planning before and some of that material also relates to topics or issues that are being discussed here. Where relevant I draw on material from three sources: The Retirement Plan Solution (co-authored with Bob Collie and Matt Smith, published by John Wiley & Sons, Inc., 2009), my foreword to Someday Rich (by Timothy Noonan and Matt Smith, also published by Wiley, 2012), and my occasional column The Art of Investment in the FT Money supplement of The Financial Times, published in the UK. I am grateful to the other authors and to The Financial Times for permission to use the material here.