Today's decisions affect tomorrow's security

The financial capacity of many retirees declines as they age. There are several reasons for this. Some enter retirement with a pent-up demand for travel or expensive hobbies. This leads to overspending in the initial years of retirement.

Others simply don't know how much they can prudently withdraw once they retire, and they begin retirement by taking an unsustainable amount. For still others, the long-term corrosive impact of inflation and unexpected health care costs cause their financial capacity to drop with age.

A significant number of people run out of money by the time they reach age 85. The Federal Reserve Board's 2001 Survey of Consumer Finance found that 38 percent of households headed by someone ages 85 and over had non-housing assets of under $25,000. Another 28 percent had non-housing assets of $25,000 to $99,999 -- not much, especially when you consider that a nursing home stay can cost more than $70,000 per year.

Despite the financial squeeze that intensifies as retirement lengthens, older retirees seem to have adjusted fairly well. But there are clear signs that baby boomers will have a harder time with 1) maintaining their financial capacity in retirement and 2) adjusting to a diminished lifestyle when this capacity cannot be maintained.

I would like to identify signs of trouble and make suggestions as to how advisors should counsel their boomer clients. Boomers will have more expensive retirements than previous generations, due primarily to lifestyle needs and higher health care costs. They will spend more on long term care than their parents' generation because their parents received a larger amount of free long term care from their children. Boomers have far fewer children than their parents and, thus, will not have this same advantage.

Importantly, boomers will get significantly less support from the government and employers. Defined benefit plans and retiree health plans will cover a smaller proportion of boomers than of prior generations.

Finally, boomers are likely to have longer retirements than earlier generations. Boomers will work longer than earlier generations, but the evidence so far suggests that they are not postponing retirement more than the generation that preceded them. Yet life expectancy at retirement age is increasing at a rate faster than the rate at which boomers are postponing retirement.

All of these factors put boomers at a higher risk of outliving their assets.

Prior generations had one other important advantage when it comes to reduced financial capacity. They were frugal. The Great Depression framed their risk tolerance and notions of financial security. Yet boomers were raised in a period of general affluence. My research indicates that they will be highly intolerant to a decline in their affordable quality of life. They will complain, most notably to their financial advisor.

So what are the implications for advisors? Despite conventional wisdom, scare tactics are not as effective with this generation as commonly believed. Fear tends to lead them to other advisors, not to manage their finances more efficiently. But there is a need to demonstrate both the importance of long-term planning and the long-term impact of inflation. Longevity is increasing, and it has a multiplier effect -- in later years inflation will take an increasingly negative toll.

Your boomer clients want financial independence and financial security; they do not want to turn to their children for financial support. It's up to advisors to accurately describe the devastating effect that a lack of financial preparation will have, and then let clients decide as to how much risk they are willing to take.