DOWNSIZING IN THE NEW NORMAL

The recent economic crisis and severe recession have caused many pundits to predict the arrival of a New Normal. For many Americans this adjustment means a reduction of household debt, lower spending on discretionary items and higher personal savings. It is clear from a cursory review of the past that this country was on an unsustainable path that led directly to the near collapse of our financial system.

PERSONAL CONSUMPTION

The Brookings Institution reports that, in the three decades that followed the austerity of the World War II era, personal consumption averaged about 62% of Gross Domestic Product (GDP). However, it rose to 64.6% in the 1980s, 67.3% in the 1990s and 69.8% between 2001 and 2008.

This dramatic increase in consumption was fueled by declines in personal savings and increases in the use of debt through credit cards and home equity. We became a nation of consumers.

HOUSEHOLD DEBT

Household debt ranged from 44% to 50% of GDP between the mid-1960s and the mid 1980s, the according to the Brookings Institution. However, between 1985 and 2008, household debt rose almost without interruption to 102% of GDP in the first quarter of 2008. This increase was possible, because household net worth grew significantly from 3.5 times GDP in 1985 to more than 4.5 times GDP in 2005, driven by higher stock prices and house values. People used their savings, investments, and homes as piggy banks to purchase everything from cars to vacations to second homes.

PERSONAL SAVINGS

The Brookings Institution report further indicates that the personal savings rate averaged close to 10% of disposable personal income between 1965 and 1985. It then entered a long decline and actually fell below zero in 2005 and 2006. For a time, Americans spent or consumed more than they earned.

We are beginning to see a shift back to more sustainable patterns of consumption and savings and a more responsible use of debt. However, it is far from clear that Americans have come to grips with the behavioral changes that will be required to secure their financial futures.

Here are some suggestions for readers about how can downsize their lives and set themselves up for comfort instead of cat food in retirement.

CLEAN OUT THE CASTLE

Americans live in homes that grew in average size from 983 square feet in 1959 to 2,629 square feet in 2008. This increase occurred despite the fact that there are fewer people living in these larger houses. In 1915, the average number of people sharing a home in this country was 4.5. In 1967, it had fallen to just over 3 people per home. Today it is just 2.6.

So, why the big houses? Many homes today have rooms that only the wealthy could afford 50 years ago. There are wine cellars, home theaters, workout rooms, home offices, and oversized garages. In addition, homes built in the last 25 years have more closets, larger garages, and bigger attics. This increased storage space is necessary only to store all the stuff accumulated during this era of massive consumption.

Well, for many Americans, it may be time to downsize. People are beginning to realize that all that stuff cost a lot of money. Most of this stuff was not all that necessary and provided only short-term happiness.

There can be great satisfaction in purging unnecessary items that clutter one’s life. A good way to approach this task is to take inventory of your home and identify things that you can give to family friends, or charity, or simply throw away. This can be a bit daunting. So, you might set a goal of sorting through the house, garage, and storage unit (many Americans have them) over the course of several months. If you are older and beginning to think about bequests, this exercise provides a great opportunity to think about who should receive family photos, keepsakes and other treasures. It is helpful to write this information down and eventually codify your intentions in your will.

SCALE DOWN THE McMANSION

When you are done thinning out the belongings in your home, you may realize that you simply don’t need all the excess space you create. Perhaps it’s time to move from the big, multi-story house to a more humble dwelling. Moving to a smaller house will likely result in a smaller house payment (or perhaps none at all), lower utility bills, reduced property taxes and less household maintenance.

If you are nearing retirement, now may be a good time to think about where you would like to live once you stop working full time. People often move to new locations to be closer to family, to enjoy better weather, to reduce their living expenses, and to be close to amenities that range from cultural offering to medical facilities. You might review U.S. News & World Report’s online “Best Places to Retire” selection tools.

Your next home will likely be smaller and perhaps be just single level. It may include features that will allow you to remain there as you grow older, such as wider doorways, nonslip floors, larger shower stalls, windows that open easily and entrances without steps. Nicer homes may also include granite countertops, high end appliances and energy efficient construction features.

PUTTING YOUR FINANCIAL HOUSE IN ORDER

In the aftermath of the recession, it’s prudent to review one’s financial house as well. If you don’t have a written budget, consider starting one. This exercise will provide you a very clear picture of your money comes from and, more importantly, where it goes. If your budget does not show a surplus that you actually save, it’s time to make adjustments. Perhaps you can reduce your TV/telephone/cable service costs. Consider dining out less frequently. How about a “staycation” in your own town instead of an out-of-town vacation?

It’s also a good idea to develop a balance sheet which summarizes your assets and liabilities. The difference between the two (i.e. assets — liabilities) is your net worth. The greater your net worth, the more likely you are to enjoy a financially secure future.

Both sides of the balance sheet merit your attention. It’s best to enter retirement with little or no debt and with enough savings and investments to meet all of your future financial needs. If you are not on track, consider consulting with a CERTIFIED FINANCIAL PLANNER™ who can review your situation and put together a plan that will head you in the proper direction. Such a plan may involve cutting expenses, paying down debt and/or creating more income.

EXTEND THE WORKING YEARS

If you are in your 50s and you are just now getting serious about retirement, you may determine that you will not be able to set aside enough assets to meet your retirement plans. Don’t get discouraged. You still have options.

For starters, consider working longer. Every year that you work reduces the number of years that your savings will need to support you and it allows you to add to your savings. Also, by delaying your retirement and pushing back the start of your Social Security benefits, you increase the amount you will receive from Uncle Sam.

Even if you are working for a company or an organization that mandates a retirement age, you might be able to find part-time work after your formal retirement in which you can continue to use you skills, knowledge, and experience. Perhaps you can consult or free lance in your area of expertise.

LIVING HEALTHY

Americans are living longer than ever. However, at the same time, are dying from conditions that are directly related to unhealthy lifestyle choices. Heart disease, cancer, stroke and chronic respiratory disease (in order) are the leading causes of death in this country, according to the Centers for Disease Control and Prevention.

Given the incredible costs of treating these conditions, Americans would benefit greatly by exercising, eating well, and avoiding unhealthy habits such as smoking, the use of recreational drugs, and excessive consumption of alcohol. Healthy people tend to visit the doctor less, take fewer drugs, and generally spend much less on health care.

In closing, it remains to be seen whether Americans will make lasting changes to their consumption and saving behavior. It is clear, however, that only those who spend less than they earn, save the difference, and use debt responsibly, will enjoy a comfortable retirement.

Terry Donahe is a CERTIFIED FINANCIAL PLANNER™ who works with affluent individuals and families. Cascade Wealth Management, LLC, is a fee only Registered Investment Advisor located in Lake Oswego, Oregon. You may learn more at www.cascadewealth.com . Terry can be reached at (503) 675-4381 or by email at terry@cascadewealth.com