Key Takeaways
- A recent analysis from Morningstar indicates that starting with a 3.9% withdrawal rate may allow retirees to avoid running out of money over a 30-year span.
- Delaying Social Security benefits until age 70 can boost overall retirement income, although this may require some immediate budget adjustments.
You’ve been putting in the effort to save for retirement, but do you have a clear strategy for how to utilize those funds during your retirement years?
A new report suggests that future retirees should consider withdrawing 3.9% of their portfolio in the first year and then adjust that figure for inflation each subsequent year.
The research found that starting with a 3.9% withdrawal rate offers a 90% chance of financial stability over a retirement lasting 30 years. This assumes a portfolio weighted with about 30% to 50% in stocks, along with bonds and cash.
So what could this mean in practical terms for someone retiring?
If one begins with about $1 million saved, the first-year withdrawal would be $39,000. In the following year, with an inflation estimate of around 2.46%, they’d withdraw roughly $39,959.
Implications for Your Retirement Planning
Your withdrawal strategy is just one piece of the retirement puzzle. It’s important to also factor in things like taxes, fees associated with investments, and the timing of Social Security benefits.
Retirees would adjust their withdrawal amounts each year based on inflation trends. In most cases—nine out of ten—you’ll find that if your retirement stretches over 30 years, you’ll still have some funds remaining.
While this guideline is useful as a baseline, it’s worth noting that taxes and fees can chip away at your investment returns, according to the researchers.
For instance, someone who primarily invests in a Roth IRA with low-cost index funds will have different withdrawal conditions compared to someone with a traditional 401(k) focused on actively managed funds.
This discrepancy arises because withdrawals from a Roth IRA aren’t taxed, while those from a traditional 401(k) require paying regular income taxes on both the withdrawal and investment income.
Consider Your Social Security Options
It’s crucial to take a comprehensive approach to your retirement plan, keeping in mind the role of Social Security in your overall income.
The report from Morningstar highlights that individuals who adhere to the 3.9% withdrawal strategy and postpone claiming Social Security until age 70 tend to have the highest lifetime income.
Ideally, one should begin collecting Social Security at age 70 and continue working until then. But if that’s not a feasible option, the study offers various strategies to create financial solutions from ages 67 to 70, which is the full retirement age for those born after 1960.
- Establish a TIPS ladder for the first three years: Withdraw enough to cover three years of expenses, then access those funds through three separate Treasury Inflation-Protected Securities (TIPS), maturing at ages 68, 69, and 70.
- Postpone inflation adjustments for three years, if needed: Withdraw 3.9% of your portfolio plus expected Social Security income. If the portfolio experiences negative returns during any year from 67 to 70, skip the inflation adjustment for the next year.
- Reduce spending temporarily post-retirement: Limit spending to about 80% of your anticipated retirement expenses until you turn 70, with no inflation adjustments following market downturns. Calculate 3.9% of your portfolio plus expected Social Security income, then multiply that figure by 0.8 to ascertain your annual expenses using this strategy.
