A Sustainable Retirement Rate
Posted on October 4, 2015 by bob in MoneyWise
Most retirees these days rely mainly on Social Security and a retirement account other than a traditional pension that pays a fixed monthly payment for life. The retirement account may have begun as an employer-sponsored profit sharing plan, 401(k), or similar plan before being rolled into an IRA.
While the owner of an IRA may withdraw as much as they wish each year after age 59½ without facing a tax penalty, 
withdrawals are generally taxable unless the source is a Roth IRA. Having the flexibility to withdraw more or less as circumstances dictate is good, but on the other hand, the more you withdraw today, the less you will have for tomorrow. So how do you estimate a sustainable monthly withdrawal from an IRA or Roth account? (Note that the IRS requires a certain minimum annual distribution from traditional IRAs starting at age 70½).
Historically many advisors have felt that a withdrawal rate greater than 4% of the retirement account balance put the owner at risk of depleting principal too rapidly and running out of money. The question of a sustainable rate has been the focus of fresh examination in recent years because of the low interest rates resulting from Federal Reserve actions. The more conservative recent studies suggest that a withdrawal rate of 3.00-3.50% is a better rule of thumb than 4%.
A fairly low withdrawal rate makes sense for those who need to stretch their retirement money over the rest of their lives for the following four reasons:
1) Investments in the IRA during retirement should be conservative or at least moderately so. Therefore, the rate of return will likely be lower than it was during the accumulation phase, perhaps an average of 3-5%/year. Taking withdrawals at a rate greater than the return on the account will consume principal and reduce the funds available to sustain future withdrawals.
2) Try as we might, investment managers cannot generate consistent results from year to year. Withdrawals in years when investment performance suffers will typically absorb more principal. To compensate for annual return variability, prudence suggests taking a smaller stream of withdrawals from the account.
3) The uncertainty of how long you (and your spouse, if married) will live means that you need to reserve resources in case you live longer than expected. Life expectancy statistics are averages: Half the population doesn’t live that long and the other half lives longer. Since most folks prefer to run out of time before they run out of money, it makes sense to take out less today to conserve more for later.
4) Situations will probably arise that require an extra withdrawal in some years. Such occasions necessarily leave less to cover future needs.
Going back to the original question, it can be phrased in two ways: What stream of payments can I reasonably expect from my retirement account balance? Or, how much do I need in a retirement account to provide a desired level of cash flow? To answer the first question, here are the monthly withdrawal rates per $100,000 in a retirement account at three different percentages:
— 3.00% …………………… $250.00/month
— 3.50% …………………… $291.67/month
— 4.00% …………………… $333.33/month
To answer the second, here are the balances necessary to produce monthly cash flow of $1,000 at three different withdrawal rates:
— 3.00% …………………… $400,000
— 3.50% …………………… $342,857
— 4.00% …………………… $300,000
Whether you are looking ahead to retirement or have already left the workforce, these figures may help you with planning. However, they are not guarantees. No one can tell you for sure what distribution amount is sustainable, but it is certain that the less you take out today, the more you will have later on. (3694090-08-15)
Alan Wallace
Alan Wallace, CFA, ChFC, CLU is a Senior Financial Advisor for Ronald Blue & Co.’s Montgomery office, www.ronblue.com/location-al. He can be reached at 334-270-5960, or by e-mail at alan.wallace@ronblue.com.
