2 Ways to Think About Retirement Withdrawals

There are two main schools of thought when it comes to retiring and drawing down the money from an investment portfolio. One common practice is called the 4 percent safe withdrawal rate. The other, a more conservative method, is to never touch your principal.

The safe withdrawal (SWR) of 4 percent is a method used by retirees to determine how much they can withdraw from their accounts each year without running out of money before reaching the end of their lives. The SWR method tries to balance living a comfortable lifestyle in retirement without depleting retirement savings prematurely.

For example, if someone has a $1 million retirement, they can safely withdraw 4 percent or $40,000 from their portfolio in the first year of retirement. The author behind this research is Bill Bengen. He conducted the test over 20 years ago in 1994. But how does the 4 percent rule hold up today, especially after the great recession in 2008? Bill recently did some further research into the 4 percent SWR and according to him, the popular rule still holds true today.

In fact, he even states that retirees can safely withdrawal not just 4 percent, but actually 4.5 percent if they are okay with their nest eggs lasting for only 30 years. After the first year, throw away the 4.5 percent rule and just increase the dollar amount of your withdrawals each year by the prior year’s inflation rate.

The SWR is a great rule of thumb to follow that should work for most retirees. But for a more conservative approach where capital preservation is more important, retirees can choose to only live off the interest and dividends from their nest egg. This method is called never touch your principal.

This can be difficult to implement because most conventional investments don’t pay a very high interest rate. But alternative asset classes have become available to most over the last decade and are worth exploring if the second method is more preferable.

Source: Modest Money


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