For many years, financial advisors guided clients based on what is called the “4% Rule.” This means that, upon retirement, clients could withdraw 4% of their investment portfolio without prematurely tapping into the principal. A recent report by Morningstar, however, warns that retirees should only withdraw 2.8%. Matt Allgeyer, Financial Planner with Wamhoff Financial Planning & Accounting, provides the following advice for retirees who are faced with making critical decisions regarding their retirement income.
1. Why the 4% rule has been reduced to 2.8%
- The bond market: government bonds are yielding well below historical averages. Those who are in retirement, or close to retirement, tend to invest heavily in bonds because traditionally, it’s been “safe.”
- Until 2011, government bonds have yielded approximately 5.5% per year. Today, the current rates are closer to 2%
- In terms of stocks, US equities will likely not continue to outperform those of other countries, so returns on stock-related investments may decrease in the long-term.
- Retirees are living longer, so investments must be sustainably for a period of 30 years.
2. Options for retirees trying to make investment and withdraw decisions
- Just because you are retired doesn’t mean you stop investing. Review your investments, diversify, and consider investing more aggressively
- Reconsider what diversification means. Today’s diversification is not that of years past and includes investments outside the market.
- Because the market, today, is in a period of growth, look to rebalance your portfolio. Take growth off the table to get it back to a 60/40 balance of stocks to fixed assets. (If you look chances are you’re closer to 70/30 right now.)
- Consider your expenses, and develop a plan to live on less income per year to make your money last as long as possible.
- Postpone retirement to allow more time for saving.
- Supplement your retirement income with a part-time job.
3. The bottom line
- Retirees who continue to live by the 4% rule have “approximately a 50% probability” of running out of money over 30 years.
- Develop a solid plan that will not only get you to retirement, but that will continue the right mix of investments and plan for withdrawing funds once you get there.
- If you’re properly diversified and actively managing your money, you have a better chance of being able to maintain the 4% rule, or possible push it higher to 5%.