Inflation has often been described as a hidden or “cruel” tax because of its ability to gradually erode purchasing power. When the cost of everyday goods and services rises faster than wages, savings, or other sources of income, individuals and families may find that the same amount of money simply does not go as far as it once did. Most of the clients we have the privilege of serving understand this firsthand. Inflation is discussed in the news, at work, and around the dinner table, but it is also felt during everyday activities, from filling up the car to shopping for holiday gifts.
Legendary investor Warren Buffett expressed a similar concern when he wrote, “The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislature.” When words such as cruel and devastating are used to describe something that can affect both the financial and personal lives of our clients, we take notice. More importantly, we believe inflation deserves thoughtful consideration when making long-term financial decisions.
The years since the COVID-19 pandemic have provided a powerful reminder of just how unpredictable inflation can be. The pandemic itself created significant economic disruptions, while subsequent events such as Russia's invasion of Ukraine, changes in trade and tariff policy, and conflict in the Middle East have added further uncertainty. Rather than trying to predict exactly where inflation will go next, we believe it is more productive to recognize that rising prices are a long-term planning risk and account for that possibility when building and updating a financial plan.
Why Inflation Matters
The examples above, along with the experiences of our clients, illustrate how inflation can affect both day-to-day finances and long-term financial goals.
Consider a hypothetical couple with annual living expenses of $100,000. Assuming an annual inflation rate of 3%, those same expenses would increase to approximately $134,000 in 10 years and more than $240,000 in 30 years. For someone who retires in their mid-60s and spends several decades in retirement, the long-term impact of rising costs can be significant. When larger expenses such as vehicle purchases, healthcare, home repairs, and travel are added to the equation, maintaining the same lifestyle may require substantially more income over time.
This is why inflation is an important consideration in the financial planning process. To help clients prepare for its potential long-term effects, we regularly discuss several key areas.
How Much of the Portfolio Is Positioned to Potentially Outpace Inflation?
Maintaining sufficient liquidity and cash reserves is an important part of a financial plan. However, some individuals and families may hold more cash than they need for emergencies, near-term spending, or other planned expenses. Over longer periods, inflation can reduce the purchasing power of cash, making it important to periodically evaluate how much liquidity is appropriate based on each client's needs and circumstances.
Asset allocation is another important consideration. While bonds can provide diversification, income, and stability within a portfolio, an allocation that is too conservative for an investor's goals, risk tolerance, and time horizon may limit long-term growth potential. This can be particularly important for younger investors who may have several decades before retirement.
For clients with assets spread across employer-sponsored retirement plans such as 401(k)s and 403(b)s, IRAs, and other investment accounts, we believe it is important to evaluate the portfolio as a whole. Coordinating investment strategies across accounts, rather than viewing each account in isolation, can help align the overall portfolio with the client's long-term goals, risk tolerance, liquidity needs, and time horizon.
Does Guaranteed Income Include a Cost-of-Living Adjustment (COLA)?
For clients who receive pension income or other forms of guaranteed income, we evaluate whether those payments include a cost-of-living adjustment (COLA). Without an adjustment for inflation, a fixed income stream can gradually lose purchasing power as the cost-of-living rises. Understanding how these income sources may change over time helps us build tax-sensitive cash flow strategies that account for future spending needs and other sources of retirement income.
Can Rental Income Keep Pace with Inflation?
For clients who own rental properties, we often discuss how rental income fits into the broader financial plan and whether that income is keeping pace with rising expenses. Some landlords have long-term tenants who take good care of the property and consistently pay on time, making them hesitant to increase rents. In other situations, property owners may determine that adjusting rents is appropriate as expenses such as insurance, taxes, maintenance, and repairs increase. Evaluating rental income alongside these costs can help clients better understand the role their properties play in their overall financial plan.
Which Expenses Are Most Vulnerable to Inflation?
If a couple spends $100,000 annually, not every expense will be affected by inflation in the same way. We often have detailed cash flow conversations about essential and discretionary spending, as well as which expenses may be more likely to increase over time. Understanding how rising costs could affect different areas of a household budget can help clients make more informed decisions about their spending, savings, and long-term financial goals.
Is Idle Cash Working Efficiently?
For individuals and families holding cash for emergency reserves, upcoming expenses, or other short-term goals, accessibility and stability are often the primary considerations. At the same time, we believe it is important to periodically evaluate whether those funds are earning a competitive rate of interest while remaining readily available.
This may include reviewing checking and savings accounts, money market funds, and other cash management options, while considering factors such as liquidity, yield, fees, and account protections. Interest rates can vary considerably between financial institutions and account types, so periodically reviewing where cash is held can help clients determine whether their short-term funds are positioned appropriately for their needs.
Final Thoughts
Inflation is one of many variables that individuals and families cannot control, but its potential long-term impact should not be ignored. While we cannot control what inflation will be in the future, we can make thoughtful decisions about many of the factors within our control, including how much we earn, save, spend, and the lifestyle we choose to maintain.
A well-constructed and regularly updated financial plan can help illustrate how inflation, changes in spending, and evolving savings goals may affect someone's financial future. Whether an individual is already retired or still building wealth, incorporating realistic assumptions about rising costs can help create a clearer picture of what may be needed to support both current and future goals.
At Autumn Branch Capital, we believe a thoughtful financial plan is one of the most valuable tools for navigating these uncertainties. Whether or not someone chooses to work with a financial advisor, inflation and other important variables deserve consideration when building a financial plan and making long-term spending decisions. For those interested in understanding how these factors may affect their own financial picture, we welcome the opportunity to start a conversation.