(This article previously appeared on RealDealRetirement.com.)
Forget the 4 percent rule (that says you should withdraw no more than 4 percent of your portfolio annually in retirement), Monte Carlo simulations (economists’ models forecasting the chance of outliving your money) and lifetime consumption hypotheses.
If you want a model for how to spend down your nest egg without running out of money too soon, visit Manhattan’s Grand Central Station at rush hour.
Grand Central and Your Retirement
What in the world could a 100-year-old Beaux Arts-style railroad terminal in the heart of New York City possibly have to do with coming up with a spending plan that will assure you won’t outlive your savings?
Allow me to explain.
Every day more than 750,000 people stream through Grand Central Station. Some rush to or from the subway lines that run below the cavernous main hall, others hustle to or from the commuter trains that service the suburbs. And thousands more just are milling about doing…well, this is New York, so who knows what? If you looked down from the station’s ceiling with its famed (and inaccurate) astronomical mural, you would see what looks like utter chaos as hordes of people bustle their way across the main floor.
What’s remarkable about this daily exercise is that even though many of these people are running almost flat-out, collisions are rare. And that’s where the similarity to retirement withdrawals comes in.
The reason the droves of commuters don’t routinely slam into one another is that they don’t move at a constant speed in an unswerving straight line. Rather, they make periodic small adjustments — speeding up, slowing down, inching to the left, leaning to the right — that allow them to get where they need to go without major disruptions.
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It’s all amazingly efficient, as people perform this choreography typically without touching or uttering so much as a word.
Drawing Down Your Retirement Funds
The same sort of nuance is required if you want to draw down your retirement stash without running through it too soon or ending up with a big pile of dough late in life (which means you may have unnecessarily stinted during retirement).
This feel for making frequent small adjustments is especially important when you consider that at some point over the course of retirement you’re likely to experience a financial disruption or setback of some sort that can throw a money wrench into even the most carefully laid plans.
3 Tips to Avoid Outliving Your Money
Here are three tips:
1. Do a retirement budget. Don’t worry about being accurate down to the dollar. The important thing is to have a good handle on your expenses and divide them into two categories — essentials and discretionary items — so you know how much maneuvering room you’ll have if you need to cut back spending at some point in the future.
To make it easier to factor in the inevitable changes to your budget during retirement, I suggest you create a budget online by using the interactive budget section of Fidelity’s Retirement Income Planner or Vanguard’s Retirement Expenses Worksheet.
2. Size up the odds. Once you have a decent idea of what your post-career spending will be, plug that figure along with your age, how many years you expect to spend in retirement and information about your income sources (Social Security, pensions and work income, if any) as well as details on how your savings are invested into a good retirement income calculator.
Such a tool will give you an estimate of the chances that your resources will be able to support that level of spending throughout retirement. If the probability is unacceptably low — say, below 70 percent — you can make adjustments such as paring spending or postponing retirement.
The idea, though, is to embark on retirement with a spending-and-savings withdrawal plan that at least has a decent shot at being able to sustain you the rest of your life.
3. Remember Grand Central. Whatever initial withdrawal you start with, be prepared to make adjustments as your needs, market conditions and your nest egg’s value change. If a market downturn wallops your retirement portfolio with a big loss, you may need to scale back spending and withdrawals to give your nest egg a chance to recover.
If a string of above-average annual returns fatten the size of your portfolio substantially, then you may want to enjoy yourself and spend a little more freely.
The best way to make these adjustments is to update and re-enter your financial info every year or so into that retirement calculator and have it recalculate the chance of your money lasting a lifetime.
If the probability is declining precipitously, that’s a sign to pare spending (or at least consider doing so). If the probability is rising, that suggests you may be able to loosen the purse strings a bit. Your aim, though, should be to make frequent, small adjustments rather than finding yourself having to make a sudden dramatic change late in life.
There are certainly other things you can do to better assure you’ll have the income to maintain an acceptable standard of living throughout retirement, such as consulting a Social Security calculator to see when it makes the most sense to claim benefits and deciding whether to take out a reverse mortgage or devote a portion of your savings to an immediate annuity.
And you’ll also definitely want to consider important non-financial questions that affect your well-being in retirement: Do you have a circle of friends you can rely on after retiring? Do you want to stay in your current home, downsize or maybe even relocate? Is your sex life conducive to a happy retirement?
But as you create your retirement income plan, just remember that there’s no system you can adhere to year after year the rest of your life without deviation.
As with walking through Grand Central at rush hour, flexibility and constant fine-tuning are key.