You don’t know how long you’ll need your retirement money to last or how much your investments will earn. Ideally, you’d like to be able to live off your investment earnings, so you’d better have plenty of savings. Most planners recommend that you expect to live 30 years in retirement.
Here are three strategies to make sure your savings outlast you:
A pioneering study at Trinity University in Texas looked at the success rate for different retirement portfolios during the withdrawal phase. “Success,” in this case, meant having money left over at the end of the period. The study used actual returns from 1926 through 1995. It assumed that you withdrew a percentage of your portfolio at the outset and then increased that amount each year for inflation.
The findings: If you adjust your withdrawals for inflation and maintain a portfolio of 75% stocks and 25% bonds, your initial withdrawals should be 4% to 5%. The 4% initial withdrawal had a 98% success rate; at 5%, the success rate fell to 83%.
If you forgo inflation raises when the markets are hard hit, your odds of success increase considerably. “Be flexible when times are particularly good or particularly bad,” says Jonathan Guyton, a Minneapolis-based financial planner. And take your withdrawals from your winning investments, not your losers.
If you really want your portfolio to last forever, consider withdrawing a fixed percentage of your portfolio each year, rather than starting with a percentage and increasing that amount by the inflation rate each year. Be prepared to make some big adjustments, though. Suppose you had used this strategy and started with $100,000 invested in the S&P 500 in 1995. Your income would have varied from $416 a month at the outset to $1,096 a month in 2000. This year: $769.
An immediate annuity is fairly simple: you give the annuity company a chunk of money, and it guarantees payments that last your lifetime. You can also get payouts based on the lifetime of you and your spouse—or for a certain number of years. Annuities can sometimes offer decent payouts, because the money from people who die in two years subsidizes the people who live to be 110.
A 65-year-old man who invests $100,000 in an immediate annuity could get a lifetime income of $662 a month, according to the Annuity Research Department. For a 65-year-old couple, the payment falls to $573. The drawback is that your payments remain the same. Some insurance groups offer what is called an inflation rider: Payments increase in line with annual changes in the consumer price index. The inflation rider reduces the initial monthly payment. It would start at about $503 a month for a 65-year-old man and $454 for a woman the same age. A reasonable approach might be to put part of your savings in an immediate annuity and tap your savings when needed.