How Much to Withdraw in Retirement

Here's a piece courtesy of Marotta Asset Management that gives some thoughts on how much of your retirement savings you can withdraw in retirement. It starts with a question from a reader:

Dear Marotta Asset Management,

My wife and I are hoping to retire soon. What percentage of our investments can we withdraw each year? And, do you recommend a high-yield investment portfolio to create the necessary cash flow during retirement?

--Ready to Retire

Dear Ready to Retire,

Studies suggest that for people retiring between the ages of 62-65, withdrawal rates of 4% of their assets are safe, but 5% significantly increase the likelihood of running out of money during your lifetime. Unfortunately, those studies are not very helpful for real financial planning questions.

Not everyone is between 62 and 65. Nor do everyone’s withdrawal choices move in neat intervals between four and five percent. Real clients want to know the specifics: "What percentage of my assets can I safely take out this year and still be able to provide for my spouse and me each year for the rest of our lives?"

As a result, we’ve developed safe withdrawal rates for ages 0 to 100. Our rates are based on age-appropriate asset allocation mixes and assume that withdrawal rates will go up each year to meet the needs of inflation. Withdrawal rates should also be conservative enough to allow for constant increases even when the markets have a poor year.

Reproduced in this table are some of the results:

Age: Withdrawal Rate 

• 62: 4.11%
• 65: 4.36%
• 70: 4.77%
• 75: 5.35%
• 80: 6.22%
• 85: 7.66%
• 90: 10.42%
• 95: 17.86%

To illustrate this point, let’s take a real-world example of the Wahoos. Wally and Wilma Wahoo are 75 with a $1 million portfolio. If they withdraw $53,500 or 5.35% from their account at the beginning of the year, and their portfolio grows by or 9% over the next 12 months, then at the end of the year their account would be worth $1M -$53,500 = $946,500 + 9% growth = $1,031,685.

Next year, when they are 76 years old, their new withdrawal rate according to our table is 5.49%--slightly more. Since their account value and withdrawal rate are now larger they would get a raise. Following this plan, at the beginning of year two they would receive a 5.9% raise or $3,139 more for the year. (5.49% of $1,031,685 = $56,639 for the year.)

Since their monthly “allowance” increased $262, their standard of living can keep up with inflation and then some.

Many people make the mistake during retirement of thinking that they need to have mostly interest-paying and dividend-paying investments to generate cash for withdrawals. This is incorrect.

People often have an unwarranted fear that they can’t "touch the principle" and therefore, should not sell stock to generate cash. For retirement income, it doesn’t matter if you receive $50,000 in interest and dividends or if you receive $50,000 by selling assets that realized a capital gain. Either way, $50,000 is $50,000.

Let’s consider an example. If 100 shares of a stock double in value and then, the stock splits and you sell half your shares, have you "touched the principle?" The truth is, you are left with 100 shares of the exact same stock at the exact same value, plus a pile of cash. There is no difference between this case and getting paid that pile of cash in dividends.

Putting everything in one type of investment is usually more volatile than diversification. Therefore, we do not recommend an exclusively interest and dividend-paying portfolio. But, having said that, I must add that good dividend-paying stocks, sometimes called "value" stocks, get a higher return and at the same time are less volatile than "growth" stocks. We would recommend overweighting value stocks, even in a non-retirement portfolio.

Retirement plans should be reviewed annually. Doing a projection every year will help you determine how much you should be saving, or if you are retired, how much you can spend. A handy goal to aim for is to save 24 times your salary by the time you retire.

Comments

[Lord]

Knowing your personal life expectancy is even more important. If at 65 you can expect to live to about 85, then these amounts are reasonable. If you expect not to reach that, or expect to live longer you should adjust your levels accordingly.

Another approach if you have some flexibility in expenses is that for each percent you can give up when returns are below average you can spend about two percent more when they are above average. You have to be sure you can live at that reduced level for a few years if necessary and you haven't forgotten anything that will surprise you later.

Also, if you can live on a percent less, it would take about 45 years to double your spending rate and at two percent about 30 years, so it is difficult to increase these much other than by working.

[Lord]

One final comment. I don't know anyone over 85 that would be in a position to spend it on anything other than healthcare. For that reason it may be desirable to advance the schedule 10 years, falling back on SS during those later years if returns don't work out. One really should try to die broke.

[Russell Bailyn]

That initial assumption with Wilma Wahoo (nice name choice by the way) is a 9% growth rate at age 75. I don't think that's particularly likely unless you're dealing with wealthy clients. The sort of people who are planning on taking even distributions of principal and income in such a way that their funds are totally liquidated at death are generally not rich. They tend to use 4% and 5% as illustration numbers because those are "risk free" rates of return (generally Treasuries, CD's, money market, etc). I think the reason people set up portfolios of dividend-paying stocks, bonds, and other short-term, liquid investments is not a lack of understanding how to sell equities for cash, but because equities (growth more than value) for the most part, would be a poor choice for the average American facing retirement.

That being said, I really liked the idea of an escalating scale of distributions rather than substantially equal payments. I think it may present a more accurate way of looking at things.