The conclusion of an excellent Kenneth Roberts article for marketwatch.com considers two more issues that should be factored into portfolio withdrawals.
“The rate of inflation is another calculation where you should use long-term averages, but also consider the effects of what could happen in either a deflationary environment or if you have to live through a period of rapidly rising inflation. If your investments don’t keep pace with inflation, you’ll lose purchasing power over time.
“Another very important consideration is your personal goals for the funds. Do you have children or charities that you wish to leave your money to? If so, you might want to just spend the income and try to never touch the principal. If you don’t wish to leave the principal to some beneficiaries, you might want to consider a plan where you use the principal also and spend the account down based on your life expectancy.
“You’ll also have to plan your budget and the amount of the distributions you’ll be taking from your retirement portfolio. One approach is to shift toward income producing investments in retirement and simply take the income from your account and leave the principal. An often cited rule that you may have heard of is the 4% rule. The rule comes from the Trinity Study, which was done in 1998.
“The way the rule works is fairly simple. In your first year of retirement you withdraw 4% of your portfolio. If you have $1 million saved, that equates to $40,000. The next year you take out the 4% again, plus an inflation adjuster. If inflation runs at 3%, in year two you’d withdraw $41,200, you’d add the inflation rate to your 4% withdrawal rate. The conclusion of the Trinity study was that if you have a 50/50 stock and bond portfolio and you take out 4% a year with an inflation adjustment, you have 95% probability that your funds will last at least 30 years. “