Is a 4% withdrawal rate too high for your retirement??
This could very well be the million dollar question for many families who will have to depend on distributions from their investments during retirement. What exactly is the 4% withdrawal rule? It simply means that if you balance your investments (stocks and bonds) and factor in inflation, you should be able to outlive your retirement savings during a 30-year retirement by simply taking 4% from your investments per year, starting the year you retire. Sounds easy enough, right? I also hear many retirees tell me that this is the advice the bank or brokerage firm gave them when they started distributions from their investments during this time.
Now to be fair, if the market does well, especially in the early years of your retirement, this withdrawal rule may serve you well. In fact, you may even be able to increase your distribution rate depending on the increased value of your investments. But what could happen if you start taking this 4% distribution during a bear market? An article in the August 2011 issue of the Journal of Financial Planning addressed this problem. The study, from Wade D. Pfau, Ph.D, covered the topic of minimum withdrawal rates that were safe for various time periods.
What it uncovered was striking to say the least. Assuming your portfolio was invested in 60% stocks, safe withdrawal rates during periods of market downturns could reduce your safe withdrawal rate well under 4%, assuming a 30-year retirement. For example, if you retired in 2000, your predicted safe withdrawal rate drops to 2.7%. It even drops further in 2008 (1.5%) and 2010 (1.8%). We all know that the market has been relatively flat over the past 10+ years. With the significant downturns during the years covered above, the chance of running out of money cannot be overlooked.
I have discussed this problem for years, because stock market volatility simply reduces the chance for a safe retirement. Dependable distributions from your retirement investments cannot come from just a stock portfolio. I personally witnessed more than a few retirees going right back to work after the 2008 stock market correction, because they felt trapped taking money from investments that dropped 30% or more in just a few months! Building a personal pension using well-diversified, income-producing investments and annuities can stabilize your income needs during retirement.
Retirement is a marathon, not a sprint. Consistent, reliable sources of income will help you manage the ups and downs of the economy during your later years.
