Why Advisors Should Distinguish Base and Discretionary Expenses

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Modern retirement theory assumes that all assets on an individual’s retirement sheet1 (financial capital, social contract, human capital) should be used for their definitional highest and best purpose. To determine the highest and best purpose of retirement sheet assets, goals are prioritized and assets and liabilities are matched.

The difference between base (mandatory or essential) and discretionary (voluntary or non- essential) expenses in retirement is fundamental and consequential. Properly making this distinction may be the most important decision in order to use assets efficiently and effectively in retirement income planning. Some advisors fail to highlight the difference between expense categories and claim that clients do not see food, shelter or insurance differently than country club dues or vacation cruises. Hence the expense categories are combined and called lifestyle expenses.

This is a distortion of affluence. Lifestyle expense is an unfortunate term and promotes the idyllic sense that to live the lifestyle one wishes these expenses should take on the same priority funding importance as basic expenses. Expense distinction is the most critical issue to optimize the use of retirement assets and to cover base (essential) expenses. Our “3S” model2 posits that net cash flow (base income) should cover Base expenses with sources of income that are simultaneously secure, stable and sustainable.