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RUNNING OUT OF MONEY is retirement’s biggest financial risk—though this, of course, never actually happens. Thanks to Social Security, almost all retirees will have some monthly income, no matter how long they live.
Still, Social Security alone probably won’t make for a comfortable retirement, though it is the financial cornerstone for many. In fact, Social Security accounts for at least 50% of income for half of retirees. That includes a quarter of those age 65 and up for whom their monthly benefit is at least 90% of their income—a statistic I find shocking.
Want to do better? You need to not only save diligently during your working years, but also figure out how to draw down those savings over a retirement of uncertain length. That brings me to three sets of statistics that prompted me today to tackle the topic of longevity.
When we’re in our 20s and 30s, financial experts badger us to give some thought to our 60-year-old self. But I worry that 60-year-olds also need to be badgered to worry about their 90-year-old self. All too often, I read that we should spend heavily early in retirement because we’ll need less money later on. Indeed, I sense that many folks believe their elderly self will be so out of it that he or she simply won’t appreciate whatever money is left. But will we still feel that way as we approach age 90, with our nest egg dwindling and long-term-care costs looming?
That raises the thorny question: As we plan for retirement, how long should we expect to live? If you know health issues will limit your lifespan, it might be possible to make a reasonable estimate. But for the rest of us, let me offer a radical suggestion: We should assume we’ll live forever and plan accordingly.
What does this mean in practice? For starters, if you’re a single individual in decent health or the spouse who had the higher lifetime earnings, consider delaying Social Security until your late 60s and perhaps all the way to age 70. A fat monthly Social Security check is the best financial defense against the cost of a long life.
Second, if Social Security alone doesn’t provide enough income to cover at least your fixed living costs, consider purchasing immediate-fixed annuities that pay lifetime income. I’d suggest buying a series of annuities over time, in case interest rates rise in the years ahead and so you can purchase from multiple insurers, thus hedging the risk that any one insurance company gets into financial trouble. I’d also suggest buying annuities where the monthly payments rise each year by, say, 2%.
Third, I wouldn’t use the 4% rule, where you withdraw 4% of your portfolio’s value in the first year of retirement and thereafter step up your annual withdrawals with the inflation rate. I think the 4% rule is a useful guideline for those looking ahead to retirement. But once retired, I’d favor a strategy where there’s no risk of depleting a portfolio.
My preference: Each year, withdraw a fixed percentage of your portfolio’s remaining value. For instance, in 2023, you might opt to withdraw 4% or 5% of your nest egg’s year-end 2022 value. The higher the percentage you choose, the greater the chance your annual withdrawals will shrink over time. Still, whatever percentage you pick, you’ll never run out of money—because you’re always withdrawing a percentage of whatever remains.
To be sure, that means you could potentially reach the end of your life with a substantial portfolio. If that really bothers you, consider annuitizing even more of your nest egg. But as for me, I’d be happy to reach my final years with a heap of money. A fat financial account will mean fewer money worries at the end of my life—and I’m more than happy to bequeath a healthy sum to my kids and my favorite charities.
Jonathan Clements is the founder and editor of HumbleDollar. Follow him on Twitter @ClementsMoney and on Facebook, and check out his earlier articles.
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Does past performance really matter when planning retirement withdrawals. The run uo in the stock was largely in part to zero interest rates. I still believe
you need to plan for SORR.
This analysis makes the argument that it is earnings that are the primary driver of stock returns:
Are Declining Interest Rates Responsible for Stock Growth? (ofdollarsanddata.com)
I like your planning suggestion – We should assume we’ll live forever and plan accordingly. Using that planning horizon will hopefully allow my wife and me a comfortable retirement and relieve those who care for us at the end of life to not be burdened by the financial aspects of our final years.
After looking at the topic of asset draw-down exhaustively, I finally came around to the conclusion that plain old life expectancy tables used for RMD’s are hard to beat both for safety and simplicity. Enhance this approach for use of retirement accounts with a sensible Social Security claiming strategy, and maybe a sprinkling of income annuities as needed, and one should be set up pretty well for a good long stretch of retirement, free of much of the drama and trauma of worrying about running out of assets. And who cares if there’s a big pile left over? I’d be thrilled if, after a long and comfortable retirement, there’s a nice big pot of gold left to give my heirs, whoever they may be. Hope they enjoy it as much as I did!
Agreed. I am 74 and living on RMDs and socsec. When my checking account goes over $10,000, I buy another share of Berkshire Hathaway as a tax efficient market proxy. Otherwise, all of my retirement is in 403b, IRA, and Roth IRA. No pension.
Mr. Clements,
Your suggestion to withdraw a fixed percentage of your year ending balance reminds me a bit of a suggestion I made to you in 2016 (you wrote about it in your newsletter of 4March2016 in an article called “Betting Your Life”). This suggestion was to decide how much risk of outliving your assets you were willing to take. That risk would determine your projected age of death and, based upon how many years away you are, your withdrawal percentage would be 1/the number of years remaining. You called it the 1/n approach.
For example, a 65 year old man may on average live to “only” 82, but maybe 10% of 65 year old men will live to age 95 (30 years more), so if he only wants to take a 10% chance of outliving his money, at age 65 he could withdraw 1/30 (3.33%). At age 66, he could withdraw 1/29 (3.45%), and so on.
Of course, there are nuances – the older you already are, the older you are likely to be at death – so you should periodically reconsider your life expectancy. And if you’re not yet collecting social security or another expected future annuity, you might withdraw a bit higher percentage until those annuities kick-in.
Still, this RADAR (Risk Adjusted Drawdown Asset Rate) approach may be useful for some, if you can find the necessary mortality probability tables for individuals or for couples which is not easy.
Back in the early 80s when our company converted our saving plan to a 401k plan, there were employees who thought that the company was scamming them about the 401k plan even though they would match up to 6% of your savings. We also had a GIC earning ~8% annually guaranteed by the Equitable Insurance Company, interest paid monthly. Employees still did not believe no matter what you said. In addition, it was party like it’s 1999 and people (Baby Boomers) blew money on all kinds of commercialism, vacations, boats, McMansions, expensive cars (more than two), etc., instead of saving. And now you see the result of poor planning and money management.
Even in the depths of divorce (2007), I was saving 9% to 15% of my salary and my company matched 9% until I retired (2016). I went from ~$75k to ~$500k in those nine years. And I should have saved more. No regrets, since I got two defined benefit lump sum retirement payments, which saved my A$$. LOL
Research shows that a portfolio of “value” stocks has been able to sustain an annual, inflation adjusted income withdrawal of between 3.5 – 7%, accompanied by terminal portfolio growth, over rolling 20 year periods since 1931. https://tinyurl.com/yckmev96
One can use low expense “value” ETFs, such as those from Vanguard, Avantis, Fidelity, etc., towards achieving this end.
Looked at spia annuities and the return is around 6% or $2729/monthly on a 500k investment. Much better than the last few years but I think most would do better nowadays with fixed income bond funds, cds, etc and leaving the 500k to heirs. I will avoid caps going forward. Thanx. I am very leary of insurance companies as nowadays fixed income annuities are being bought by many and not a wise investment
You acknowledge that income annuities offer attractive returns, but say they’re not a wise investment because you’re “leary (sp) of insurance companies”? Do you think this is convincing?
What about a couple with a diversified portfolio that can easily live off 3-4% SWR? That’s us with about 5.2M in T-Iras, Roths, and taxables. I do not see the advantage to me of buying income annuities. Our accounts are easily managed with all in Vanguard. Please tell me WHY???
If you have high assets, then you need to adopt a different strategy. You want to minimize your income to avoid IRMAA, NII, and income tax, while maximizing your asset growth.
Such strategies might involve, besides not annuitizing, taking retirement account withdrawals before RMDs kick in, taking Social Security earlier, and buying stocks with lower dividend payouts and higher growth potential
These articles are written for the average person. That’s why people seek out financial planners for their specific situation.
Maybe you don’t need to buy income annuities. The tone of your comments makes it clear you find the very idea distasteful. (When folks use ALL CAPS, the rest of us hear the screaming and start backing toward the exit.) There are no one-size-fits-all solutions. I, too, have more than enough for a comfortable retirement. So why would I annuitize? If that income, plus delayed Social Security benefits, give me a robust income stream that covers much or all of my expenses, I can invest the rest of my portfolio much more aggressively — and, as a consequence, have more wealth to bequeath to my children and help the charities I wish to support.
Can you recommend reputable providers of annuities with inflation protection and reasonable cost? Annuities’ complexity and reputation for being a rip-off make me leery. But I can definitely see the upside of a steady income stream vs constantly selling investments.
Do you think TIPS can provide a similar benefit (although less smooth income stream?)
Unlike, say, a variable annuity or a mutual fund, an immediate fixed annuity doesn’t have a published expense ratio. Instead, the income you’re quoted is after costs. I’d favor the annuity offering the highest payout — assuming it has a reasonable rating for financial strength. There are no true inflation-indexed annuities. But you can buy immediate annuities that step up their annual payment by a fixed percentage each year, such as 2% or 3%.
As I’ve written many times, the term “annuity” covers a host of different products — and there’s a huge difference between an immediate fixed annuity and, say, an equity-indexed annuity or a variable annuity. An immediate fixed annuity is a simple, plain-vanilla product that pays relatively little in commission to insurance salesmen, which is why they don’t push them.
I’m a fan of TIPS. But they’re a different animal. You could use them to generate income, but they aren’t designed to provide guaranteed lifetime income.
Jonathan,
Why do you prefer the immediate annuity over an advanced life deferred annuity? With the exception of the wait to the first payment date, an ALDA is identical to the single premium immediate annuity but with a much higher payout rate.
I don’t have any objections in theory to deferred income annuities (though, in the past, I’ve heard experts complain that they believe insurers are less generous with DIA payouts than with immediate annuity payouts because of a lack of competition). But I’d rather invest the money myself, and retain the option of not annuitizing, up until the I point I buy an immediate annuity and turn on that income stream. Managing the money myself until that juncture means added risk — I’ll be keeping at least a portion in stocks — but that should also mean added reward.
Spending a monthly annuity payment is also easier than fretting about when and how much to withdraw from investments.
Why is not beneficial for Mr. Tobin to simply hire an asset manager instead of signing on to a long-term contract with an annuity along with the associated fees?
Social Security was designed based on life expectancy after reaching adulthood , yet the articles I read advocating cuts to Social Security use statistics based on change in life expectancy from birth . Very different results. If you’re wrong about the root cause, your solution is going to be wrong too.
I have a different solution to this problem, one that applies to few retirees, but maybe to some of the readers here. Instead of spending down my assets, I continue to save money as a retiree, increasing my net worth every year. Yes, you need a lot of money to do this. But if you are a successful saver, you may be able to reach the point where your financial life is self-sustaining.
I like the immediate annuity idea as well, at least for a portion of assets to ease the long-term stress – build your own pension so to speak.
I also favor starting retirement with income replacement as close to 100% of pre retirement base pay as possible to provide a cushion. Starting at 60-70% even 80% seems risky to me.
Everyone is different of course, by why begin retirement with a plan to spend way less and for spending to decline in the future? Needless to say more income likely means more aggressive saving along the way.
Spending changes, but not necessarily declines in retirement, unplanned stuff happens, the desire for greater discretionary spending may increase to help family.
Many people pay off their debt obligations while earning an income, which usually peaks as they near retirement.
If one can afford it, the question that comes to mind is if it makes sense to also extend this behavior and pay off future tax obligations like future taxes from tax-deferred accounts by ROTH conversions despite being in a much higher tax bracket.
Psychologically, it appeals to me since I know the money I have and my mind is not playing tricks with inflated values in traditional IRAs and 401(k)s.
You keep posting that you need to replace 100% of income in order to retire. I am going to disagree, again. What you need is enough to cover expenses, which may have little relationship to your salary. (Of course, if you spend more than you make, retirement isn’t an option.) If you were saving 20-25% for retirement, pay off your mortgage, and see your taxes plummet, you do not need 100% of income. I retired on a pension that was 40% of income, and not only did my life style not suffer, I embarked on extensive travel.
What i say is strive to replace 100% of your base pay, not total compensation. That is to provide a cushion for all the years of retirement. I also say that a big drop in spending such as mortgage being paid off must occur just before retirement for there to be an impact.
Very few Americans save 20-25% while working and even fewer can live the same lifestyle on 40% of former income. But if you can, more power to you and i hope all works well the next decades.
If one strove for a 30% savings rate while employed and can now “enjoy” an income tax rate of only 20-something percent in retirement, (versus 35- 39% while working), living off 40 – 60% of income should provide a fairly comfortable life, especially if one’s mortgage is zero.
I am not sure what point you are making with base pay versus total compensation. Income is income. My base pay was my total compensation for most of my career, and when the megacorp did start paying bonuses it wasn’t that much. I have been happily retired for over two decades, and I waited until 70 to start my own Social Security. Jonathan is correct that what worked for you or for me is not a prescription for everyone.
Many Americans work overtime, receive bonuses of some kind or even a portion of income in securities, that is not base pay. Income based on 40 hours work may be less than 100% of total compensation. Also, keep in mind that roughly 40% of that 100% I talk about is already achieved by SS benefits. No suggestions or observations are for everyone, I’m no different nor do I pretend to be but if “experts can use 80% or 70% why can’t I use 100%? Accept or reject any of what others say.
But you say you retired many years ago on a pension equal to 40% (I assumed that was your total income) and waited to 70 for SS, doesn’t that mean after years of retirement your replacement is 80% or more in terms of total retirement income? So, are you living today on 40%?
I have always disagreed with the “experts” who used 80% – what counts is expected expenditure not current income. And if you regularly receive overtime or bonuses I expect you treat it as regular income.
I haven’t lived solely on my pension since FRA, when I drew SS on my ex-husband’s account. As the pension had no COLA it has represented a smaller and smaller percentage of my prior income adjusted for inflation. Since I switched to my own SS and even more since I started RMDs I have again been living on less than my income, although that will change when I move to a CCRC.
The problem with your advice is that, if I had followed it, I would have missed out on many years of retirement, and travel.
I feel like a broken record here, but there are no one-size-fits-all solutions. We shouldn’t extrapolate too much from personal experience. Some folks will indeed need 100% of their preretirement income. Many won’t. My spending today is less than a fifth of what I earned during my time at Citigroup (my last fulltime job) and less than half of what I earned while at the WSJ. But I don’t think that’s a useful guide for others.
Each HD contributor, authors and commenters, is indeed different and unique. You have built a community of respectful thought leaders. I voraciously read HD appreciating while not everything applies to my situation, the kaleidoscope of options to consider keeps me mindful.
Very true, one size does not fit all which means any guidance, advice, standards apply very differently in every case. Kind of wonder the value of any guidance.
If the advice was you can live comfortably in retirement on 40% of pre-retirement income, some experts would say you’re nuts. Same for my position, but I would rather start retirement with a lofty goal and be surprised I don’t need all the income than be surprised in the opposite direction.
All should review the Trinity Study and you will see the probabilities of different asset allocations in retirement for a 30yr period. 100% Cash has low survival rates and stock allocations 25% or greater have a 90%+ probability of lasting 30 years Jonathan, please explain why you like SPIAS as in the last bunch of years and zero interest rates, annuities were a poor choice. Really not crazy about insurance products as they own many big buildings.
Why not invest in a modest model of stocks and bonds and hope the future will somewhat mimic the past?
Yes, with interest rates low, SPIAs weren’t a great choice in recent years. But the same can be said of bonds, right? I’ve been suggesting immediate annuities as part of a retirement-income strategy for decades and folks always object, no matter what the interest rate environment. So why do folks object? As optimistic as Americans tend to be, it seems they’re profoundly pessimistic when it comes to their own life expectancy and thus resist buying immediate annuities. I believe the same pessimism infects decisions about when to claim Social Security.
If you want to read more about my thinking on immediate annuities, check out this article:
https://humbledollar.com/2020/08/risking-my-life/
Retirement used to seem so far away, but now it is upon us! Thank you for reminding your readers of the importance of drawdown methods.
Your comment reminded of this from Moms Manley on old age: “You wake up one morning and you got it.”