As you transition from earning a paycheck to living off your portfolio, choosing the right withdrawal strategy is crucial. While there's no one-size-fits-all approach, understanding various methods can help you make an informed decision.
But before diving into specific strategies, it's important to acknowledge two unpredictable factors that can impact your retirement plan:
- Sequence of portfolio returns, especially early in retirement
- Future tax rates
These variables underscore the need for flexibility in your retirement planning. For instance, tax rates can significantly affect your withdrawals. A married couple with $200,000 of taxable income eight years ago paid an effective tax rate of 21%.
From just $107.88 $24.99 for Kiplinger Personal Finance
Be a smarter, better informed investor.
Sign up for Kiplinger’s Free Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
The Kiplinger Building Wealth program handpicks financial advisers and business owners from around the world to share retirement, estate planning and tax strategies to preserve and grow your wealth. These experts, who never pay for inclusion on the site, include professional wealth managers, fiduciary financial planners, CPAs and lawyers. Most of them have certifications including CFP®, ChFC®, IAR, AIF®, CDFA® and more, and their stellar records can be checked through the SEC or FINRA.
Today, the same inflation-adjusted income ($262,000) is taxed at just 19%, resulting in more than $5,000 in savings.
In the next decade, the tax pendulum could swing back in the other direction … or not.
One other important consideration is the probability your plan will succeed. When stress-testing a portfolio, most financial advisers view a Monte Carlo probability of success score of 80% or higher as satisfactory.
Some people desire a higher level of security, while others are willing to trade off a lower success probability with spending more early in retirement when they can enjoy it.
With that background in mind, let's explore four popular retirement withdrawal strategies.
1. Fixed real withdrawal strategy (the 4% rule)
This classic approach involves withdrawing a fixed percentage of your portfolio annually, typically 4%, and adjusting it for inflation each year thereafter.
However, recent research from Morningstar suggests a more conservative 3.7% withdrawal rate for a 30-year retirement with a 90% success rate.
The reason for the lower rate? Morningstar is predicting lower equity returns over the next decade.
2. Guardrails strategy
A variation of the 4% rule, this method allows for adjustments based on portfolio performance. You increase withdrawals when markets perform well and decrease them during downturns.
While flexible, it requires more monitoring and can lead to greater year-to-year spending variations.
3. Retirement smile spending strategy
This approach aligns with real-world spending patterns of affluent retirees. It maintains higher spending in early retirement, decreases in mid-retirement (late 70s to mid 80s), and then increases again in later years due to health care costs.
This cash-flow-based strategy targets specific dollar amounts rather than percentages.
Looking for expert tips to grow and preserve your wealth? Sign up for Building Wealth, our free, twice-weekly newsletter.
This method also requires more ongoing monitoring and can require adjustments to spending if portfolio returns are below historical norms.
4. Partial liability driven investment (LDI) strategy
This strategy addresses sequence of return risk by covering a portion of anticipated spending with maturing bonds in the early years of retirement.
Our analysis shows that using this strategy to cover half of annual draws in the first four years of retirement can increase the success probability by 3% for a 30-year retirement with a 60/40 portfolio.
Conclusion
Choosing the right retirement withdrawal strategy is a personal decision that depends on your unique financial situation, risk tolerance and lifestyle goals.
While these strategies provide a framework, it's crucial to remember that retirement planning is not a set-it-and-forget-it proposition.
Regular reviews and adjustments are necessary to ensure your strategy remains aligned with your needs and market conditions.
Consider working with a financial adviser to tailor a withdrawal strategy that best suits your individual circumstances and to navigate the complexities of tax laws and market fluctuations.
By doing so, you can increase your chances of maintaining financial security throughout your retirement years.
Related Content
- Which Retirement Accounts Should You Withdraw From First?
- Top Four Retirement Withdrawal Strategies to Maximize Your Savings
- Early Retirement Withdrawal Strategies for the Long Haul
- Retiring Early? This Strategy Cuts Your Income Tax to Zero
- Before You Retire, Consider These Five Questions
-
My $1.2 million vacation home has a $360K mortgage. I don't need my upcoming $45K RMD. Should I use it to pay down the mortgage?We asked wealth planners for advice.
-
Four Strategies for Older Adults to Cut Property TaxesBefore you settle your next property tax bill, make sure you're taking full advantage of these tax breaks for older homeowners across the US.
-
My $1.2 Million Vacation Home Has a $360K Mortgage. I Don't Need My Upcoming $45K RMD. Should I Use It to Pay Down the Mortgage?
We asked wealth planners for advice.
-
Unwrapping Your Estate Plan for Your Kids: A Gift That'll Keep Giving Long After the HolidaysThe holidays offer families a perfect opportunity to discuss important, often difficult topics like long-term care, estate plans and legacy.
-
5 Ways to Teach Your Kids About Giving Back, From a Financial PlannerTeaching kids generosity goes beyond simple rules and can involve fun, practical strategies, such as letting them lead giving, volunteering together and more.
-
I'm a Financial Planner: Here's How You Can Use AI to Improve Your FinancesApps can help with budgeting, saving and investing, financial coaching and debt management. But providing your personal information can also raise your risks.
-
Dow Gains 664 Points as Rate-Cut Hopes Rise: Stock Market TodayMarkets are pricing in higher odds for a December rate cut, fueling a major rally in stocks ahead of the Thanksgiving holiday.
-
Quiz: Test Your IRA Contribution IQQuiz Test your basic knowledge of traditional and Roth contribution rules in our quick quiz.
-
When Checkout Charity Gets Uncomfortable — and Maybe Even IllegalCashiers asking customers to 'round up' their total for charity can cross an ethical line if there's no disclosure about the benefiting organization.
-
Four Ways to Find Free Money to Pay for College: Affluent Families Can Apply, TooFamilies can access scholarships, grants and incentives by strategically positioning their students in terms of merit, skills and timing.
