How to apply safe withdraw rule?

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whodatheads
Posts: 42
Joined: Thu Apr 18, 2013 10:09 am

How to apply safe withdraw rule?

Post by whodatheads » Sun Jul 15, 2018 6:17 pm

Both my wife and I retired about 6 months ago and we are just looking into the withdraw rule. My wife's conclusion is ~2.5%, citing a Morningstar article which she adopted to be on the conservative side in terms of length of retirement period until death and future equity return. Well, I think the number is too low for our spending habit but my wife insists... rule is rule, she said.

I want to make sure the rule is applied correctly. I know it is somewhere but I'm too lazy to search for it. So a heads up will be much appreciated. Does the withdraw percentage apply to your liquid asset only(stocks, bonds, and cash)? what if you also own real estate(both primary and second homes)? How about pension and SS incomes? Both my wife and I got lots of stock holdings that are pretax(from 401K converted to traditional IRA which will be gradually converted to Roth). Do you take that into account? Thanks,

tibbitts
Posts: 8122
Joined: Tue Feb 27, 2007 6:50 pm

Re: How to apply safe withdraw rule?

Post by tibbitts » Sun Jul 15, 2018 6:26 pm

whodatheads wrote:
Sun Jul 15, 2018 6:17 pm
Both my wife and I retired about 6 months ago and we are just looking into the withdraw rule. My wife's conclusion is ~2.5%, citing a Morningstar article which she adopted to be on the conservative side in terms of length of retirement period until death and future equity return. Well, I think the number is too low for our spending habit but my wife insists... rule is rule, she said.

I want to make sure the rule is applied correctly. I know it is somewhere but I'm too lazy to search for it. So a heads up will be much appreciated. Does the withdraw percentage apply to your liquid asset only(stocks, bonds, and cash)? what if you also own real estate(both primary and second homes)? How about pension and SS incomes? Both my wife and I got lots of stock holdings that are pretax(from 401K converted to traditional IRA which will be gradually converted to Roth). Do you take that into account? Thanks,
I don't think you can't count a home you live in as an asset in the same sense as an investment account. If you have an income property - and that probably doesn't mean one week of rent a year, then I'm not sure, the SWR studies are based on equity and debt asset class historical returns, not real estate returns.

Pensions and SS aren't assets, they just reduce the amount you have to withdraw. Similarly, you have to calculate what you have to pay in taxes as one of your required expenses, and that will be a higher amount if you're withdrawing funds that haven't been taxed.

2pedals
Posts: 649
Joined: Wed Dec 31, 2014 12:31 pm

Re: How to apply safe withdraw rule?

Post by 2pedals » Sun Jul 15, 2018 7:37 pm

Safe for who?
I would say 2.5% is safe in general but, it all depends on your asset allocation, income stream, retirement period, stock market performance etc.

retiredjg
Posts: 34418
Joined: Thu Jan 10, 2008 12:56 pm

Re: How to apply safe withdraw rule?

Post by retiredjg » Mon Jul 16, 2018 8:05 am

whodatheads wrote:
Sun Jul 15, 2018 6:17 pm
Both my wife and I retired about 6 months ago and we are just looking into the withdraw rule. My wife's conclusion is ~2.5%, citing a Morningstar article which she adopted to be on the conservative side in terms of length of retirement period until death and future equity return. Well, I think the number is too low for our spending habit but my wife insists... rule is rule, she said.
Here's my understanding of how it works.

The Trinity study showed that a 4% withdrawal of the original portfolio, increased by inflation each year, reliably resulted in portfolios that lasted 30 years if the portfolio contained a reasonable amount of stock (say at least 40% stock).

Example: For a $1 million portfolio, take $40k the first year. If inflation was 2% that year, you can take $40,800 the second year. And so on. You are allowed to continue to spend your "allowance" even in the bad times.

That $40k withdrawal includes taxes and investment costs so beware if paying out 1% of your 4% to an advisor. That would be a quarter of your annual "allowance". :shock:

One has to be careful how this information is used. For example....
  • -People rarely take the same amount from a portfolio every year. The year the roof is replaced is not going to fit into that $40k example very well. Also expenses near end of life can be very high for several to many years.

    -People are often using their portfolios for more than 30 years these days.

    -You might have retired just before a long market downturn. This is sheer luck (or bad luck) and it takes years to recover from (from my personal experience). If you are interested, do some research on "sequence of returns".

    -The future may not look like the past. The stock market may not perform as well in the future as it did during the Trinity Study. Or inflation may be higher.
It is likely reasons like this that cause people to conclude that 2.5% is a better choice than 4%.

Does the withdraw percentage apply to your liquid asset only(stocks, bonds, and cash)? what if you also own real estate(both primary and second homes)? How about pension and SS incomes? Both my wife and I got lots of stock holdings that are pretax(from 401K converted to traditional IRA which will be gradually converted to Roth). Do you take that into account? Thanks,
All your assets invested for retirement are counted. All the stocks, bonds, cash in all accounts.

Pension and SS are not counted. They are income streams. They reduce the amount you need to take from the portfolio but they are not part of the portfolio.

I would never include my primary home as a retirement asset. Everybody needs a place to live. If I had a paid for million dollar home and intended to move to a low cost of living location and live in a $250k home, I would wait till that happened and then add the cash to my portfolio and recalculate as best I could and probably spend a little more.

I probably would not include a second home, but an argument can be made to include that one. However, I would include it at a lower value than it actually is. Some act of nature could make the value decline substantially.

The Trinity study showed there were also 30 year periods when something higher than 4% withdrawal was safe. The problem is that you won't know if you are in one of those periods until you are dead. But 4% was reliable through all the time periods studied - that is why 4% became the magic number.

If you and your wife are planning to postpone taking SS until later, that is a good argument to take more than 2.5% now because you could be taking 2.5% or less later after your SS kicks in. Or take your SS now and hope that brings your withdrawal rate down to something low.

Unfortunately, all of this boils down to squishy numbers, none of which can be depended on. Better to start out too conservative than too aggressive.

whodatheads
Posts: 42
Joined: Thu Apr 18, 2013 10:09 am

Re: How to apply safe withdraw rule?

Post by whodatheads » Mon Jul 16, 2018 10:24 am

retiredjg,

Excellent reply! You answer all of my questions and more. Greatly appreciated.

My wife is expected to live until 95. So she is looking at a 37 yrs of retirement period, whereas me, 20 yrs, thus a very different perspective...haha
Last edited by whodatheads on Mon Jul 16, 2018 11:11 am, edited 1 time in total.

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galeno
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Re: How to apply safe withdraw rule?

Post by galeno » Mon Jul 16, 2018 10:52 am

Do not count your home. It generates expenses.

Use the 4% rule. If you want to be conservative subtract your portfolio's ER from the 4%.
AA = 40/55/5. Expected CAGR = 3.8%. GSD (5y) = 6.2%. USD inflation (10 y) = 1.8%. AWR = 4.0%. TER = 0.4%. Port Yield = 2.82%. Term = 33 yr. FI Duration = 6.0 yr. Portfolio survival probability = 95%.

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