Calculating how much you can safely spend in retirement means knowing your retirement withdrawal rate. Here we address some common questions about how you can avoid running out of money in retirement.
What is the withdrawal rate?
This is simply the rate you withdraw each year for living or other expenses throughout retirement, and it is typically expressed as a percentage of your initial balance.
It’s often called a sustainable withdrawal rate (SWR) or the 4% Rule. This rule of thumb was based on historical stock and bond returns from 1926 to 1976, and is indicative of how long your retirement savings will last. These days, some financial advisors consider a SWR to be no more than 4% to 5% of your savings, and that you should adjust that amount every year for inflation.
What goes into calculating the rate?
Your withdrawal amount is an important part of your financial plan that your wealth advisor can help you determine. Generally, there are four factors that contribute:
#1 Your lifestyle and goals in retirement
As an example you might withdraw more early on in retirement if you intend to travel more, purchase a second home, or do other activities that require more money. Everyone’s situation is different, and this is one area where a wealth advisor can be a big help.
#2 Your life expectancy
Retirement can last 30 years or more, and a big part of retirement planning takes into account how long you expect your retirement to last. The longer your retirement, the lower your safe withdrawal rate will be, because your money has to last that much longer. If you have a spouse, you should consider their life expectancy, as well.
#4 The state of the market when you retire
How the market performs at the start of your retirement is one of the biggest factors in determining your retirement withdrawal rate. If you withdraw when the stock market is going through a rough patch, you may need to scale back your withdrawal rate to make your savings stretch. On the other hand, if you retire during a time of economic and market strength, you may be able to have more confidence in a rate north of 4%. This is one reason a balanced portfolio and correct asset allocation is critical to long-term investment success.
#4 Your Social Security benefits or other income
Social Security, annuities, and even pensions can all be guaranteed income that can help you minimize the retirement income you must withdraw from your investment accounts. Another possible source of income for you in retirement may be part-time or consultant work.
How does inflation impact the retirement withdrawal rate?
Inflation can be looked at just like expenses in terms of the impact it has on your retirement savings: Both have the net effect of eating into your savings. Inflation reduces your buying power because everything costs more, and should inflation rates outpace investment returns, you may need to make necessary adjustments to your withdrawal amount.
No one can predict investment returns or inflation rates, but planning for inflation is always a necessary approach. Your wealth advisor can help guide you through some strategic decisions to help soften the inevitable blow of inflation in retirement.
How can Ironwood Wealth Management help you? Our comprehensive financial planning process is a great way to start ensuring your financial strategy is dictated by your goals and supports your vision for retirement. Contact us to get started today.