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Mean vs. Median Life Expectancy for Retirement Planning

A reader writes in, asking:

“Your discussion of life expectancies this week got me thinking. I believe that the life expectancy that is often discussed is the ‘mean’ life expectancy. Is that true? And if so, how do the ‘median’ and ‘mode’ life expectancies compare? Is mean life expectancy really the best thing to use for retirement planning?”

Yes, it is true that life expectancy refers to mean (i.e., average) life expectancy unless explicitly stated otherwise. And it is true that, as with many other things, it can be informative to look median and mode life expectancies as well.

However, in short, when it comes to retirement planning (at least for somebody retiring at a typical age) mean life expectancy does in fact do a pretty reasonable job of expressing how long the average person is likely to live.

As a brief refresher for anybody who hasn’t used these terms in a while:

  • Mean refers to what we normally call “average,”
  • Median refers to the middle data point in our set, and
  • Mode refers to the most common value.

So with regard to lifespans:

  • Mean life expectancy would be the average age at death,
  • Median life expectancy would be the age which 50% of people will die prior to reaching, and which 50% of people will live past, and
  • Mode life expectancy would be the most common age at death.

Mean, Median, Mode Life Expectancy at Birth

According to the SSA’s 2014 period life table*, male life expectancy at birth is 76 years. That’s the mean value. The median life expectancy is just past age 80. And the mode (i..e, most common) age at death is age 86.

Why the difference?

It occurs because with a life expectancy of 76 years, there is of course a chance that a person dies far, far before reaching that life expectancy. For instance, infant mortality is tragic but unfortunately not super rare. About 0.6% of babies die before their first birthday. In such a case, a person will have fallen 75 years short of their life expectancy.

There is, on the other hand, basically no chance that a person will live 75 years past their life expectancy (i.e., to age 151). So in order for the mean to be the mean, there must be many more people living past it in order to balance out the smaller number of people who come nowhere near to reaching it.

You can see this phenomenon in the following chart, which shows frequency of male deaths at various ages. There is a narrow but long tail to the lefthand side of the distribution, representing all the people who die long before reaching their life expectancy. There is no such tail on the righthand side.

Chart1

The blue line in the chart shows mean life expectancy. As you can see, it occurs well before the mode age at death (i.e., the point at which the chart peaks, at age 86).

The same relationship holds true for females at birth, for the same reasons. Specifically, according to the SSA’s 2014 period life table:

  • Mean life expectancy at birth is 81 years,
  • Median life expectancy at birth is roughly 84.5 years, and
  • Mode age at death is 89 years.

Overall point being: a person’s life expectancy at birth somewhat understates how long they are actually likely to live.

Mean, Median, Mode Life Expectancy for Retirement Planning

But when it comes to retirement planning, the differences are much smaller.

For instance, for a 60 year old male:

  • Mean age at death is 81.5 years,
  • Median age at death is 82.5 years, and
  • Mode at age death is 86 years.

And for a 60 year old female:

  • Mean age at death is 84.5 years,
  • Median age at death is 86 years, and
  • Mode age at death is 89 years.

The reason the differences are much smaller here is that, if you’re already age 60, that long lefthand tail on the distribution turned out not to apply to you. The remaining distribution is much more symmetrical. In other words, you’re now about as likely to die before reaching your life expectancy as you are to live past your life expectancy.

Overall point being: for the sake of retirement planning, mean life expectancy does a decent job of representing how long you are likely to live.

*Of note: All of the data in this article comes from the SSA’s 2014 Period Life Table. I’m using it here because it provides the most accessible data to work with, and because it can accurately demonstrate the relationship between mean, median, and mode. However, as we discussed last week, period life tables (and therefore all of the figures used here) somewhat understate a person’s life expectancy.

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Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

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What Length of Retirement Should I Plan For?

A reader writes in, asking:

“I’m currently age 55, considering retirement in the nearish future. I am trying to determine the length of retirement I should be planning for. The SSA Actuarial Life Table indicates that if I retired today, I’d have an ‘average’ retirement length of 25 years. Of course I should plan for longer than that, because I have a 50% chance of living past my life expectancy. But how much longer should I be planning for?”

The answer is, “it depends.” But first we need to spend a minute talking about life expectancy in general.

Period Life Tables vs. Cohort Life Tables

A “period life table,” such as the table provided by the SSA, uses data about deaths in a given year. For example, in 2017 it would look at how many people age 65 died in 2017, and how many people age 66 died in 2017, and how many people age 67 died in 2017, etc. And it then uses those figures to determine the probability of any giving person dying at age 65, 66, 67, etc.

The upside here is that we’re using actual, verifiable data.

The downside is that we’re conflating different birth cohorts. For example, if we want to know the life expectancy of a person who is currently age 20 in 2017, just how relevant is the likelihood of a current 65 year old dying this year? There are another 45 years until our current 20 year old reaches age 65, and a lot of medical progress could happen between now and then.

In contrast, a “cohort life table” uses actuarial projections about people born in a certain year. That is, it includes assumptions about how mortality rates will change over time.

Point being: A period life table is always going to understate a person’s life expectancy, assuming life expectancies continue to grow over time. A cohort life table should provide a better estimate of an actual person’s life expectancy.

Personally, I am a fan of the Longevity Illustrator tool as a quick way to get a good estimate of your life expectancy, as well as your probability of living to various ages. The tool was jointly created by the Society of Actuaries and American Academy of Actuaries, and it uses the SSA’s mortality data, with adjustments to reflect projected improvements in mortality rates over time.

How Are You Different from Average?

The average life expectancy is a useful place to start, but you likely have information about yourself that suggests that the average life expectancy is not your life expectancy. You likely have specific information about your health being better or worse than average. (The Longevity Illustrator mentioned above gives you a little flexibility here, as it allows you to select excellent/average/poor for your health status, and allows you to select smoker/nonsmoker.)

Even something as simple as your education/income level tells you something about your expectancy. For example, as we discussed a couple of years ago, if we look at women age 50-74, for those with a college degree, the mortality rate (i.e., the likelihood of dying in a given year) is 49% lower than the average mortality rate. In other words, if you’re a woman between the ages of 50 and 74 and you have a college degree, you are only half as likely to die each year as the average woman in your age bracket.

Longevity Risk Tolerance

Finally, after having information about your longevity projections, the appropriate retirement planning horizon depends on your personal tolerance for longevity risk. That is, how sure do you want to be that you will not outlive your portfolio?

For example, if funding retirement with a bond ladder, one person might want to build the ladder out to the point where she’s 99% sure she won’t outlive the ladder. Somebody else might be comfortable with a 75% chance, because she places a higher value on current spending and she is OK with the possibility of a cut in spending at a later point in retirement. Either approach might be perfectly reasonable.

To some extent this decision is personal preference, but there are also important financial factors as well.

Example: Alice has $30,000 of inflation-adjusted safe income between her Social Security and her pension. She also owns her home and has paid off her mortgage. Betsy has $15,000 of Social Security, no other safe income, and she rents her home. Betsy is in a much worse position if she outlives her portfolio than Alice would be.

So, to summarize, when determining the length of retirement to plan for:

  • Be sure to use information from a cohort life table (or at least recognize that a period life table is understating your life expectancy somewhat),
  • Be sure to account for any information you have that makes your life expectancy different from average, and
  • Use your life expectancy projection to pick a planning horizon that matches your tolerance for longevity risk.

Retiring Soon? Pick Up a Copy of My Book:

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Can I Retire? Managing a Retirement Portfolio Explained in 100 Pages or Less

Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

"Hands down the best overview of what it takes to truly retire that I've ever read. In jargon free English, this gem of a book nails the key issues."

Retirement Planning for Single People as Opposed to Couples

A reader recently wrote in, asking about the difference between retirement planning for a single person as opposed to for a couple.

Overall, the same basic principles apply:

  • It’s always a balancing act of maximizing living standard now as opposed to running the risk of depleting your savings;
  • The same portfolio construction/management principles apply (diversify, minimize costs, pay attention to your risk tolerance);
  • General tax planning principles are unchanged (e.g., Roth conversions are useful in years when your marginal tax rate is low); and
  • Insurance planning principles are unchanged (i.e., if you can’t afford to pay for a cost out of pocket, you should strongly consider insuring against that risk).

As far as the implementation of those principles, however, there are two primary differences:

  1. The length of retirement will likely be shorter, and
  2. There are fewer discrete stages of retirement to plan for.

Shorter Planning Horizon

With regard to the length of retirement, the lifespan you have to plan for is naturally shorter when there’s only one person involved (rather than having to plan for the “second to die” lifespan of a couple). This shorter planning horizon has several consequences. For example:

  • A given withdrawal rate from the portfolio is safer for a single person than for a couple of the same age,
  • Funding basic needs with a bond ladder of a given length is safer for a single person than for a couple of the same age, and
  • Self-insuring for long-term care requires a significantly smaller amount of savings.

Fewer Stages of Retirement

For a couple there are distinct “two people” and “one person” stages. And that creates some planning opportunities/complexity that are not applicable for a single person.

As far as spending, for a couple there will be a point at which one spouse dies and total spending falls considerably, suddenly. For an unmarried person, there will obviously be no such sudden change.

As far as income planning, for a couple there will be decreases when each spouse retires, increases when each spouse begins claiming Social Security, possibly another increase when one spouse switches from a smaller benefit to a larger benefit (e.g., starting their own retirement benefit after having collected spousal benefits for some years), and a decrease when either spouse dies and the smaller Social Security benefit disappears. For a single person, there are fewer times at which income will change — usually just a decrease upon retirement and an increase when Social Security begins.

As far as tax planning, every time that income level changes, there is likely to be a change in marginal tax rate. Similarly, when one spouse dies and the other begins using “single” tax filling status, there will often be an increase in tax rate due to smaller tax brackets. All of these different changes in tax rate over time create tax planning complexity that an unmarried person wouldn’t have to worry about.

Retiring Soon? Pick Up a Copy of My Book:

Can I Retire Cover

Can I Retire? Managing a Retirement Portfolio Explained in 100 Pages or Less

Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

"Hands down the best overview of what it takes to truly retire that I've ever read. In jargon free English, this gem of a book nails the key issues."

Tax Planning for the “Pre-Social Security, Pre-RMD” Retirement Years

A reader writes in, asking:

“After retiring, I’ll have a window of a few years before Social Security and RMDs, during which my tax rate will be relatively low. What is your opinion on how best to use that period? Better to use long term capital gains or Roth IRA conversions to fill up that low tax rate space?”

It depends.

The goal is to figure out how much you save by doing a Roth conversion now (as opposed to the money coming out later), and compare that to the amount you save by realizing capital gains now (as opposed to later).

For example, if Roth conversions would currently face a 15% tax rate, but you expect that (if you didn’t do a Roth conversion), the money would come out later at a 25% tax rate, then your savings on each dollar you convert at that 15% rate would be 10%.

And if you’re in the 15% tax bracket right now, each dollar of long-term capital gains that you realize (while still staying in that bracket) would be taxed at 0%. And if you expect that you’ll be in the 25% bracket later, then LTCGs would be taxed at a 15% rate later (because LTCGs in the 25-35% tax brackets are taxed at a 15% rate). So you’d be saving 15% by realizing them now.

Point being: In this hypothetical case the 15% savings from realizing capital gains now exceeds the 10% savings from doing Roth conversions now, so realizing long-term capital gains is preferable.

To be clear though, this is a simplified analysis. In reality, you’d want to account for any factors that could cause your marginal tax rate (whether on Roth conversions or realization of LTCGs) to be different than the normal amount (e.g., because additional income is causing you to lose eligibility for a given tax break).

A good way to account for these complexities is to model via tax prep software. That is, you would create a hypothetical tax return in TurboTax or something similar, and see how your total tax changes if you do another $1,000 of Roth conversion or realize another $1,000 of long-term capital gains.

There can be an assortment of case-specific complicating factors as well. For example, if you expect to have a large portion of your portfolio left when you eventually pass away, it’s important to:

  1. Remember that long-term capital gains would go untaxed if you leave the appreciated assets to your heirs (because they would get a step-up in cost basis), and
  2. Consider your heirs’ future tax rates rather than just your own future tax rate when considering Roth conversions (i.e., if you don’t do a Roth conversion, money would be taxed at their rate when it comes out of an inherited traditional IRA).

As you might imagine, working with a tax planning professional is likely to be helpful.

Retiring Soon? Pick Up a Copy of My Book:

Can I Retire Cover

Can I Retire? Managing a Retirement Portfolio Explained in 100 Pages or Less

Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

"Hands down the best overview of what it takes to truly retire that I've ever read. In jargon free English, this gem of a book nails the key issues."

Who Should Buy Long-Term Care Insurance?

Last week a few readers wrote in asking about long-term care (whether to purchase policies in the first place, or whether to keep existing policies when premiums rise sharply).

Unfortunately, the question of long-term care insurance is one for which I don’t have a very good answer. Long-term care poses a significant financial risk for most people. Yet there are a few good reasons why a person might be better off opting not to buy a long-term care policy.

You Can’t Afford the Premiums

If you can’t afford to pay the premiums, you’re in an unfortunate situation, but the decision is easy.

Coverage via Medicaid

In addition, many people are in a position such that Medicaid would kick in relatively quickly in the event of a long-term care need. For those people, buying LTC insurance usually doesn’t make sense because the policy would mostly be protecting the government rather than protecting the insured person.

In fact, a 2014 study from the Center for Retirement Research at Boston College found that, largely because of the protection offered by Medicaid, only 22% of single 65 year old men and 34% of single 65 year old women could expect an improvement in overall economic outcome by purchasing LTC insurance. (You can find the study here or a summary paper here.)

Of note, that study only looks at single individuals rather than married couples. Presumably, married couples would have a higher willingness to pay for LTC insurance because of worries that one spouse’s uninsured LTC needs could leave the other spouse with a lower standard of living than desired. (Medicaid does have rules for preventing spousal impoverishment, but the limits are low enough that in many cases the healthy spouse would still be left in an undesirable situation.)

You Can Pay Out of Pocket for Long-Term Care

As with any insurance, you will on average lose money by purchasing long-term care insurance. That is, because a part of the premium goes to pay for the insurance company’s overhead and profit margin rather than to pay benefits for policy owners, policy owners will on average have a negative outcome.

To be clear, this is not in itself a reason not to buy long-term care insurance. The same thing can be said (i.e., that you will, on average, lose money) about purchasing term life insurance, health insurance, disability insurance, and auto insurance, yet they’re all considered to be wise purchases in many/most cases.

Rather, the point here is that, because insurance is on average a losing proposition, it generally only makes sense to insure against a cost that you cannot reasonably pay out of pocket.

As far as whether or not it’s possible to pay out of pocket for a long-term care cost, it’s helpful to remember that long-term care cost isn’t purely in addition to current living expenses, as the cost of such facilities typically includes some things that are currently a part of your normal budget — meals, for instance. Plus, other expenses (e.g., travel and possibly housing) naturally disappear or nearly disappear when a person enters a long-term care facility.

According to a 2016 report from the National Association of Insurance Commissioners (with credit to Christine Benz’s excellent “75 Must-Know Statistics About Long-Term Care” for directing me to the report), for people turning age 65 in 2015-2019:

  • 48% are expected to have no long-term care costs during their lifetimes,
  • 15.4% will have costs of up to $50,000,
  • 9.7% will have costs of $50,000-$100,000,
  • 11.7% will have costs of $100,000-$250,000, and
  • 15.2% will have costs that exceed $250,000.

Another noteworthy point: people with lower incomes are more likely to have an extended need for long-term care. (See Table 5 on page 35 of the NAIC report.) This isn’t surprising, since people with lower incomes are often in worse health than people with higher incomes. But it certainly makes planning even more challenging for lower-income people.

Policies are Problematic

The turmoil of the LTC insurance market (i.e., premiums increasing significantly and unpredictably and insurers choosing to leave the business entirely) is another reason that would make me leery of buying LTC insurance if I felt that I did not have a need for it.

Even if you had perfect information about the probability of needing long-term care at each year in your life and perfect information about the expected cost of that care, it would still be a challenge to determine whether a policy is a good deal or not, because we don’t have a good way to predict how much most policies will cost over an extended period.

recent paper from John Ameriks of Vanguard together with four other researchers concluded that, “better quality LTCI would be far more widely held than are products in the market, be held in large quantities, and generate substantial consumer surplus.” In other words, there are plenty of people out there who want long-term care insurance and who would be willing to pay for an ideal version of it, but who do not actually own a policy because of undesirable characteristics of the products available today.

So Who’s Left?

So, after considering all of the above points, who does that leave as the people who should be buying policies? People who meet all of the following requirements:

  • You can afford a policy.
  • You could not easily pay out of pocket for long-term care.
  • The protection from Medicaid is not acceptable/sufficient protection for one reason or another (e.g., because you have sufficient assets that Medicaid wouldn’t kick in for far too long).
  • The undesirable characteristics of currently available policies are not sufficient to deter you.

While that’s a list of requirements, it still leaves quite a lot of people.

Retiring Soon? Pick Up a Copy of My Book:

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Can I Retire? Managing a Retirement Portfolio Explained in 100 Pages or Less

Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

"Hands down the best overview of what it takes to truly retire that I've ever read. In jargon free English, this gem of a book nails the key issues."

RMDs and Retirement Spending Strategies

After last week’s article about retirement spending strategies, several readers wrote in with questions about the interaction between required minimum distributions (RMDs) and such strategies.

The most common question was whether RMDs would get in the way of implementing a retirement spending strategy.

To be clear, the RMD rules say that you have to take money out of the account in question, but they do not force you to actually spend the money. Nor do they force you to change your asset allocation in any way. (That is, after taking the money out of your retirement account, you can re-buy the very same asset in a taxable brokerage account, if you want to.)

That said, there is some interaction between RMDs and spending, simply in the fact that if your RMDs are going to cause your tax bill to increase over time, that’s something you have to budget for — much as you might budget for, say, increasing health care expenses over time.

In other words, if increasing RMDs cause your tax bill to make up a larger and larger portion of your annual spending amount, it can force you to cut other expenses in order to stay within the spending range you’ve set for yourself.

RMDs Affecting Spending by Reducing Returns

One reader asked whether RMDs would eventually have a downward effect on portfolio returns (because more of the portfolio will be in a taxable account as time progresses) and whether that should be factored in when determining an initial spending rate.

It’s true that once the money is reinvested in a taxable account, the rate of growth will (generally) be lower than it would have been in a retirement account. But this would have a very minor effect on a person’s achievable level of spending through an entire retirement, given that:

  • RMDs have no effect whatsoever until age 70.5,
  • RMDs only affect a portion of your money (i.e., accounts that require RMDs have pretty small RMDs in the first several years, and RMDs have no effect at all on money that was already in a taxable account or a Roth IRA),
  • Even once the money is in a taxable account, you will still get to keep most of the earnings (especially with stock holdings, given the favorable tax treatment of dividends and long-term capital gains), and
  • Much of your ability to spend in retirement comes from the fact that you can spend principal as well as earnings.

RMDs as a Spending Strategy

One reader asked about the strategy of using RMD tables as a means of calculating your spending each year (i.e., each year, calculating what the RMD would be if your entire portfolio were in a traditional IRA, and using that amount as your annual spending amount).

A study by David Blanchett, Maciej Kowara, and Peng Chen found that such a strategy was more efficient than either the “percent of portfolio each year” strategy or the “inflation-adjusted spending” strategy that we discussed last week. And a study by Wei Sun and Anthony Webb had similarly positive findings for an RMD-based spending strategy. In other words, based on what I’ve read, I think that’s one of several reasonable approaches to selecting an annual spending amount.

Retiring Soon? Pick Up a Copy of My Book:

Can I Retire Cover

Can I Retire? Managing a Retirement Portfolio Explained in 100 Pages or Less

Topics Covered in the Book:
  • How to calculate how much you’ll need saved before you can retire,
  • How to minimize the risk of outliving your money,
  • How to choose which accounts (Roth vs. traditional IRA vs. taxable) to withdraw from each year,
  • Click here to see the full list.

A Testimonial from a Reader on Amazon:

"Hands down the best overview of what it takes to truly retire that I've ever read. In jargon free English, this gem of a book nails the key issues."
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