While almost everyone agrees that the old 4% annual withdrawal rate from retirement accounts is no longer a given, people like David Blanchett, head of retirement research at Morningstar Investment Management, think it’s too high. At 4%, he told On Wall Street that clients only have a 50% chance of their assets lasting through a 30 year retirement. A 2.8% annual withdrawal rate is more realistic, he says in the September issue of the magazine.
David Frisch, a fee-only CFP with offices in Melville, NY, Manhattan and Tampa, sees the other side of the story. “In the event of a downturn, the 401(k) can become a 201(k),” he says, and a couple may not have enough money to live on. That may mean they’ll need to increase their rate of withdrawal, even though their risk of running out of money goes up substantially.
Generally, Frisch agrees, clients should withdraw less to compensate for low interest rates, longer life spans and the fact that most people no longer have pensions other than Social Security to rely on. But whether the client increases, decreases or sustains a 4% withdrawal rate, Frisch says, ultimately depends on three factors:
1) The client’s cash flow requirements
2) The rate at which the distribution will be taxed
3) And how the client is invested
“The 30-year bond rally seems to be ending,” he says, “and rates are at historic lows. So risk enters the conversation.” If bonds are going to earn lower returns than they have historically, people will need to start looking to alternatives like high dividend stocks. But the problem there is the principal may not be protected. So the question, he says, becomes” how comfortable are retirees with accepting greater risk with equities?”
Pointing to the recovery in stocks that occurred following 2008’s meltdown, Frisch says those who can accept the increased risk are better off and stand a good chance of recovering any losses they may experience, although for that to happen they may need to slow their withdrawal rate or cease withdrawals altogether for a period of time.
Those who can’t tolerate that amount of risk may need to increase their rate of withdrawal to compensate for their lack of returns. Today, he points out, even though inflation is low, interest rates are approaching zero, so retirees are still losing money on their savings.
To compensate for the poor returns and higher rate of withdrawal, Frisch says, the client may have no choice but to return to work.
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