Saving for retirement is challenging, no doubt. But if you want to know what’s really tricky, consider spending that money in retirement. Retirees in the past often relied on a simple rule for retirement income: Draw down 4 percent of your savings every year and you will be all set. But the retirement landscape has changed.
For one thing, people are living longer, and their money has to last all that time. One in four people who are 65 years old today will live to age 90, and one in 10 will live to 95.
Low interest rates also complicate the picture for savers. A one-year certificate of deposit came with a yield of just 0.28 percent, on average, through most of September, according to Bankrate. That’s hardly enough to generate much retirement income.
Then there is the changing nature of retirement saving itself. Many people retiring now are able to count on pension and Social Security payments for the bulk of their retirement income, with investment income the icing on the cake. An AARP Public Policy Institute analysis of Census Bureau data found that in 2012, median income from Social Security for those receiving it was $13,972, and median income from pensions and retirement savings was $12,000. For these people, drawdown decisions matter, but represent just a portion of retirement income.
But as more and more people retire without defined benefit plans, their own savings, often in 401(k) accounts, will be increasingly important — and investors’ choices about how to use them will be more complex.
“You need to have the safety in terms of predictable income, and you need to have part of your portfolio in risk assets. You could be looking at 30 years” of retirement, said Dan Keady, senior director of financial planning at TIAA-CREF.
Some investment pros say the 4 percent rule, first broadly proposed by William Bengen, a former financial advisor, in 1994, can still apply, but differently.
“We talk about the 4 percent guideline as a starting point,” said Judith Ward, a senior financial planner with T. Rowe Price. Take longevity, for example. At T. Rowe Price, financial planners recommend that people planning for retirement assume that their money will have to last for 30 years, said Ward. Clearly, if retirement assets remain flat, a 4 percent drawdown will not last that long.
That’s why Ward and others recommend that retirees use a 4 percent withdrawal rate as a loose target, but then adjust their drawdowns depending on market conditions. When markets are in a downturn, “great, tighten the belt,” Ward said. Conversely, a strong market can enable retirees to draw down a bit more, since they will still be leaving plenty of savings in the portfolio.