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How Much Can I Spend In Retirement? Is The 4% Rule Still Relevant - Podcast

| December 01, 2021
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In today's episode Nicholas Olesen, CFP®, CPWA® shares how we help clients answer this simple, but very important question about retirement income planning and spending. He also takes a step into the highly debated 4% withdrawal rule and why it may not be right.

As most people plan for and dream about retirement, until you are on the verge of stepping into retirement, many people don't figure out how the logistics and strategy to replace their income. During today's 15 minute podcast, Nicholas talks through the three big questions that everyone should think about when planning their retirement income and portfolio. 

A few topics covered are:

  • Income vs withdrawals
  • The 4% withdrawal rule was not meant to be 4% forever and for everyone
  • Two types of risk to retirement portfolios
  • The three questions you have to answer to know how much you can spend in retirement

You can find a transcript of today’s show below.

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Please send us feedback and any topic or questions you would like us to cover.  Email us at: nolesen@kathmere.com 

Transcript from today’s show:

Thanks for tuning into A Wealth of Advice. My name is Nicholas Olesen, Director of Private Wealth at Kathmere Capital.

How much can I safely spend in retirement?And where's this income coming from? That's actually a question that I got, just last week. It's the third time I've gotten a very similar question in the last month. And usually that's frankly, what makes a lot of these podcast topics. And so that's where we're going today.

I first want to level set some terms, and talk through and kind of clarify the way when I talk about something, what I'm referring to. And this comes about from a lot of these conversations. The second part of that question, where does this income come from, was a question I got twice and it happened within 24 hours of each other. Where we had talked through portfolio, we had talked through design, we'd gone over their portfolio the past year. And then this, these two different clients are transitioning into retirement in the next couple of years. So we were trying to go through if they were retired today and their salary was not coming in, where would we be pulling from in their portfolio? And I used the term income with them. And by using that term, it immediately changed the way they viewed their portfolio from this big pool of capital that they can withdraw from to how much income am I earning? Not how much has my portfolio earned, but how much income am I earning? And anyone who's paying attention to interest rates today realizes that no matter what type of portfolio you have, your income in your portfolio is probably pretty low.

And so that's where this question came from. That's why it's important to talk about terms. So when I talk about retirement income, I am talking about [00:02:00] replacing your income or how much can you spend in a calendar year? I'm not talking about the actual income from your portfolio. So retirement income to me is how much are you spending and then backing into that, what do we need to do withdraw?

So I actually think of it more as a, not income, but withdraw as a better term for it. Hopefully I start using that more, but I'm just so caught in usually using the term income that I'll probably say it a lot. But when I talk about it, I just want you guys to realize when we talk about retirement income, it's mostly withdraws. Okay. Did I bang that in there enough to get that one in?

And the reason again, why income is a bad gauge and this'll go hand in hand with this 4% rule, is, if you're just talking about income off of your portfolio, with today's incredibly low interest rates, you know, dividend rates, annuity rates, you name it. Everything is pretty low as far as what your returns can be on just the income side. The income generation portfolios, the high dividends, the bond yields, everything, are not that high right now. And maybe you're talking, I think the S&P this is literally just off the top of my head. I did not look at this S&P is maybe, what is it, two and a half, three and a half percent on dividends. If you look at the 10 year treasury, you're talking about 1.6% annual and if you're looking at kind of immediate annuities, you know, some of them are what, five, six percent. But I just want to touch on these terms and why I think income, even though I use that term, I don't actually mean income generated from your portfolio.

So to me, withdraws is a much better way of thinking about it. And when you think about it, then is the 4% rule, which says that you can withdraw 4% of your portfolio forever and never run out of money. Off a million dollar portfolio, it means you'e withdrawing $40,000 a year off your portfolio. You then have Social Security, pensions, other assets that are generating actual [00:04:00] other income and actually income for you.

Is that enough? Does that allow you enough of a lifestyle?

Good question. Something we can touch on and something we touch on with clients all the time. But the funny part about the 4% rule, because I was trained on this you go back into all, financial planning books, all advice on withdraws since about the mid 90's, talked about this 4% rule.

You want to know why? A guy named Ben Benjen. He in the nineties was trying to figure out a way that he could, quickly and kind of a rule of thumb tell clients about how much they can withdraw. He wrote a bunch of research papers on it. He then published a couple of books on it. So, basically in the early nineties, the 4% rule came into being.

But the funny part is if you talk to him or listening to interviews of him today, or any of his new research, you'll find that he wrote about the 4% rule, but he actually used 4.5%. And in today's environment, he's using more like 5% to 5.5%.

 it's, it's funny that the term that has been touted about talked about, I think, you know, most people know, Hey, the 4% withdrawal rule, like I'm okay. It's actually not the one that the person who created and did the research and figured it out actually uses. So just thought it was a funny antidote when we talk about this.

When we talk about withdrawals to the side of it, of how much can I afford or how much can I spend in retirement? It has a lot of different questions that it brings up to me who sits on this side of the table so much with clients. And one of the things is when you talk about withdraws and percentages you have to take into account the fact that there's various tax rates, which then imply other costs, which then can increase other costs. And the reason I say that is when we look at some client situations and they've saved a ton in retirement assets, and then we look at their lifestyle and we increase or we take the withdraws to generate income that they need off their portfolio, take it out of retirement account, that increases their taxable [00:06:00] income, their AGI, all of a sudden then their Medicare costs goes from, you know, $100 a month to $400 a month. That is a very substantial $4,000 difference on an annual basis.

I say all those things to say, when we talk about withdraws there are so many moving parts to this. But what I want to do is kind of distill down this big question to aligning back to, it's not really income as a retiree that you need to focus so much on, it's the withdrawal side. And then I want to put a couple other questions around this that then can help you understand your personal percentage withdraw or amount or something to give you some answer here.

So, when you look at it, obviously one of the big ones is risk. How much risk are you willing to take in your portfolio?

And when I look at it, and this is going to be, we're going to have a part two of this, or just a completely separate podcast on it, which talks about risk in portfolio. There's two types of risks in a portfolio and the way that we design them.

One of the risks is the statement shock risk. The very short term risk of your statement showing a down value of a substantial dollar amount because you're invested in the market, stock market specifically, or even the bond market but most people think about the stock market. And you know, you go back to 2020, where we're recording this in November of 2021. You go back to 2020, you look at your statement in February, it looks great. You then pull up your statement April 1st, market had bottomed out March 26th, I believe it was and your stock part of your portfolio is down anywhere from 25 to 40%, depending on what percentage allocations you had in different stock indices.

So that's what I call statement shock.

But the other long-term risk and the bigger risk to me is longevity risk. In that you are taking too safe of an asset mix to generate the income that you need down the road. And, right now we just received this week, the latest inflation rate for the last 12 [00:08:00] months, and that showed a 6.5% inflation rate.

When you think of it and think of the risk in the portfolio. The reason I say it matters with withdrawals is if you have flexibility to your spending and you can take your spending down pretty substantially, you might be able to take a larger withdrawal percentage. And when the markets go down, you just cut your expenses pretty easily. You can say, Hey, we're not going to take those couple of trips. We're not going to do this, that, and the other thing. A lot of your risks can actually be dependent on your flexibility in spending not as much your personal risk or statement risk.

I just want to put that out there, because I think that's an interesting way of looking at it in something that talking to clients have found valuable.

The other one is kind of a hard one. I know, especially if you listen to the last podcast coming off the, just the real life of planning, which is longevity. Your timeframe. How much you want to plan on. How long you want to plan on your portfolio lasting matters.

 I met with an individual just this morning and they said, you know, I love your optimism. I love the fact that you are planning for us, well into our nineties, but gotta be honest doubt we're gonna make it. I think 85 is going to be a really great stretch goal for us.

 And it's hard when you're looking at it that close and you feel how you feel. It became a hard conversation for them to have with me, which just said, I. My time here is not what you think it is. Family health, personal health, it's just not going to happen. And so that matters, tremendously.

Your withdrawal rate can obviously be much greater if you say, Hey, I really only need it for the next 15 to 20 years. I don't need to plan for 35 year retirement.

Those are kind of a lot of the things that come into a simple question, that says, " How [00:10:00] much can I spend in retirement? What type of income can I expect?"

 So I think the best place to end it is with a couple of questions. There's three questions that I think of when this very simple question of "how much can I spend in retirement or where's the income coming". Those questions brought up all, you know, however long I've been talking now podcast, but it really, to me does boil down to just a few questions

Which is and it's hard because it's something that we touched on the last podcast and just touched on, which is, you know, how long do you want to plan for, is it a 10 year retirement? Is it a 50 year retirement? Is it a 25 year retirement? What do you want to plan for that will drastically change. The quote-unquote "probability of success" of different withdrawal rates. It will drastically change what you can safely withdraw without having huge risks of doing it.

And speaking of risks, that's question number two, which is how much risk are you willing to take on? Are you okay looking at a statement that's down 25% from where it was before and, knowing that you're still okay, you will continue doing the lifestyle you want? Or will seeing a statement that shows values 25% less than it was the quarter before shake you and make you stop doing what you want to do, because you're scared? And if that's the case, then you probably shouldn't take on the risk that would put that kind of draw down in your portfolio.

And then the last one which kind of ties all of that together, and think is one of the most critical questions, which is, when the market falls or when you've put a plan to withdraw X percentage and your portfolio is worth less, can you adjust your lifestyle? Can you change how [00:12:00] much you're spending on a year to year basis?

We have some clients that can do it very easily. We tell them, you know, based off of where things are, and we, fortunately, with where the market's been and things like that, we haven't had this conversation in a very, very, very long time.

But when we talk about lifestyle, if we had to come to them and say, Hey we need you to cut just for this year. We put guardrails around your portfolio, around your withdraws and the guardrail we've kind of hit the lower end of it. We need to cut out about $20,000 in expenses from what you did last year.

We have a lot of clients who would just not a problem, easy. We'll skip this out of the other thing. And then others that if they heard that, that would shake them. They would not know where to do that. Everything is so fixed and spending is so clearly tied to what they withdraw, that there is no flexibility.

So I pose those three questions. I think that those are good ones when you think of a very simple, how much can I spend in retirement? You need to dive deeper into that question. It needs to talk through longevity, risk, flexibility of spending. And other income coming in matters tremendously around that, obviously pension, Social Security, other income, anything that you have matters because of those are very much guaranteed then you can have a little more flexibility with your other expenses.

But it all comes down to that last one.

So I hope this was really helpful. I hope that this type of, kind of conversation, if you will helps. If you do have other questions or you do want to talk about your situation, we would absolutely love to hear from you either way.

Send us an email add some questions on topics that we should touch on here or if you do have questions on your personal situation.

Thanks so much for your time today. Take care.

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