Once you enter retirement, you need to make a key decision to determine how much money you can take out of your retirement accounts to pay your living expenses.
Along with other sources of income such as Social Security or annuities, you clearly need enough to make ends meet.
Still, you don’t want to take out too much so fast that you run out of money later on.
Withdrawal rates are critical if you don’t want to outlive your money. Generally, you should plan to have your money last at least 20 to 30 years in retirement. As a nation, we keep living longer every year, so count on many years to come.
Managing Your Retirement Withdrawals
One way to help prevent over-withdrawals is to take out no more than 4 percent of your money in your first year of retirement, and then multiply that number by 1.03 every following year. That 1.03 factor is basically an inflation adjustment of 3 percent each year, so you can maintain your standard of living in retirement. You can adjust the inflation factor up or down each year, depending on the economy and inflation rates.
For example, if you have $500,000 in your retirement accounts, the guideline withdrawal rate of 4 percent of that amount means a $20,000 withdrawal for your first year of retirement. For your second year, multiply $20,000 by the inflation factor of 1.03 to get a withdrawal of $20,600.
For your third year, $20,600 times 1.03 equals a withdrawal of 21,218. And so on.
Always remember to be flexible with these withdrawal “rules.” Depending on current economic conditions, you may want to start your initial withdrawal rate at a different percentage, such as 3 percent when times are tough. If your retirement money falls in value in a particular year due to poor returns, it may be very wise to cut back on how much you withdraw for a year or two. When your investments perform well again, you may be able to increase your withdrawal rate to a more “normal” level.
Be aware that many individuals have unrealistic expectations about how much they are going to be able to withdraw during retirement. It is important to have good discipline during the first years of retirement, particularly to start off on the right foot and not raid your nest egg too quickly.
This material is provided by MyRetirementPaycheck.org, a site from the National Endowment for Financial Education that helps people explore all of their retirement decisions.
© 2012 National Endowment for Financial Education. Used with permission. All rights reserved.