Ep. 217 – You Have Enough to Retire, but How Do You Create an Income

In this Episode of the Secure Your Retirement Podcast, Murs discusses how to approach a retirement withdrawal strategy when you have enough to retire early. He explains the importance of having a financial professional to help you with the withdrawal strategy to avoid the stress of the deaccumulation phase.

Listen in to learn the importance of starting a withdrawal strategy in the first few years of retirement to avoid a sequence of return risks. You will also learn about all the things you should be thinking about if you want to retire early or at any age to keep your life fun and exciting in retirement.

In this episode, find out:

• The stress that comes with the deaccumulation phase after the accumulation phase all our lives.
• The four percent rule, what it says about retirement planning, and why we don’t agree with it in 2023.
• The importance of speaking with a financial advisor to help you with the withdrawal strategy and all its pieces.
• The sequence of return risk and the importance of starting a withdrawal strategy in the first few years of retirement.
• Consider strategies to help you tap into your 401k if you’re retiring early.
• Think through how much you need and want to keep your life fun and exciting in retirement.
• Consider any income, health insurance, and where to withdraw from to make your withdrawal strategy successful.
• The simplistic view of how we approach the bucket system and a withdrawal strategy.

Tweetable Quote:

• “The four percent rule says if you withdraw four percent of your assets on an annual basis, then you should be able to maintain your assets, and you should have a higher probability of success for retirement planning.” – Murs Tariq

Resources:

If you are in or nearing retirement and you want to gain clarity on what questions you should be asking, learn what the biggest retirement myths are, and identify what you can do to achieve peace of mind for your retirement, get started today by requesting our complimentary video course, Four Steps to Secure Your Retirement!

To access the course, simply visit POMWealth.net/podcast.

Here’s the full transcript:

We have helped hundreds of our clients gain clarity and get on the path to a great retirement. Now it’s your turn. Let’s dive in.

Welcome everyone to the Secure Your Retirement podcast. My name is Murs Tariq with Peace of Mind Wealth Management. My partner, Radon Stancil, usually joins me on this podcast, but he is out today taking a nice break that he deserves. So you’ve got just me today. But I’ve got a great topic for you.

Actually, one of my routines, one of the things that I think Radon and I both do is the first thing we do when we log in or check our phones in the morning is we look at MarketWatch. I think every advisor has their website that they go to. For us, it’s MarketWatch. MarketWatch is full of a bunch of different articles, but also it gives us a little bit of an idea as to where the markets are, different things that we watch there. But Yahoo Finance, Google Finance, all these websites work well, we just happened to pick MarketWatch.

But what is on that website is an article that I wanted to discuss with you today, and I’ll read you the headline directly from marketwatch.com. The article is called, “We’re 54, have $4.5 million in savings, but don’t know how to withdraw it in retirement. What should we do?” So they have a column called Help Me Retire, and people will write in questions and explain what their question is, and then there’s a journalist who will make some comments on it and things they want to think about. I thought this article was very interesting just because it’s things that we talk about all the time. We know that you have these questions. We know our clients have these questions, and our job and our goal is to educate as best as we can on, well, what is the proper process?

There is no perfect answer for everyone, and I think the person that wrote the article does a good job here of saying, “Hey, every situation is different, every family is different. So you really want to maybe sit down with someone or at least think this through from a lot of different angles.” That’s what we try to do as financial advisors and fiduciaries is we want to look at every family individually, rather than trying to base something off of a rule of thumb.

Let me just dive into the article and then I’ve got some commentary for you. Basically, here’s what the person wrote to MarketWatch. They said, “Dear MarketWatch, my wife and I are both 54 years old and have accumulated a taxable account totaling $2.3 million and retirement assets totaling $2.2 million. We hope to retire at 55.” So a year from now, they’re 54. “We are wondering about the best way to take our distributions. Clearly, we will not touch the qualified money until we have reached age 59 and a half.”

He also goes on to say, “I understand the 4% rule, but when it comes to taking money, is it better to have a set monthly, quarterly, or annual withdrawal, or is it better to take a lump sum? I can see myself going crazy trying to time the market tops in order to take distributions. I was planning to take money off the table after the peak in 2021. I purposely held out until 2022 for tax purposes.” And he says, “And that backfired. Is the best course of action to set it and forget it on a monthly, quarterly, or annual basis?”

The bulk of this person’s question is really around the withdrawal strategy and really the withdrawal frequency. But there are so many things that I take away from this article. I want you to look at it from a financial advisor’s perspective of, well, it’s not just how do we start withdrawing. We’ll get to that answer and we’ll think that through, but we need to take a few steps back here. From our perspective, if you’ve been listening to us long enough, you know that we like to start everything with this idea or concept of a retirement-focused financial plan. Because it’s interesting, you grow up and you’ve been told to just save, save as much as you can, dump money into all these different types of accounts, retirement accounts, which like 401ks, 403bs, 457s, individual retirement accounts like IRAs and Roth accounts, and then non-retirement accounts like brokerage accounts, build up the emergency fund, all these different things. Invest in life insurance, pay off the mortgage, all these different rules of thumb that we’ve been told.

We get down the path in our careers, and all of a sudden, now it’s coming … We’re exiting that accumulation phase of life, and we are entering now the distribution phase or the de-accumulation phase, where you’ve got what you’ve got essentially, and you have to now make it work. In the case of the 55-year-old, they have to make it work for a very, very long time. They’re retiring a bit earlier than most, but you got to make it last for 30, 40, 50 years. So that’s where, one, the anxiety starts to come and the stress around, did I do a good enough job saving? Did I do a good enough job properly planning for this distribution phase?

Go back to the number. They’ve got a total of $4.5 million. Not that that number is arbitrary, but I will say that we see families with much less. We see families with much more, and the worry is still the same. Do I have enough, and how do we actually do this. What do I need to be thinking about?

So go back to the person’s question. It was really around how do I start withdrawing? I think the person who responded to the article, the columnist, brought up … The first comment was around the 4% rule because the person who wrote in the question says, “I understand the 4% rule.”

By the way, if you’re listening, the 4% rule is pretty simple and it’s designed to be simple. It’s a rule of thumb. What that is is it says, if you withdraw 4% of your assets on an annual basis, then you should be able to maintain your asset, and you should have a higher probability of success for retirement planning.

For example, if you have $1 million in an account and you limit your withdrawals to 4% or $40,000 a year out of that account, the idea is that the market growth is going to either do better than 4% over time or at least maintain at 4% over time. So you’re setting a plan that is somewhat predictable. Now, predictable is where the market doesn’t allow for. 2022, the market was down 20% to 30% depending on which index you look at. The pandemic year 2020, the market fell 34% in a matter of a few weeks. Go to 2008 scenarios that you’ve all lived through. 2018 had blips. What we know is that we are constantly going to see corrections, and we’re constantly going to see larger corrections. So in that 10% to 20% to 30% selloffs, we see them on average every few years.

So the 4% rule, while it is a rule of thumb and it has a lot of popularity to it, I would tell you that Radon and I, we don’t fully agree with it. I think there’s a lot of people out there that would say the same. Actually, Morningstar is a large company that does a lot of analytics, and they actually came out and said the 4% rule is a bit broken. This person actually references it in their response saying that really it’s about 3.3%, not 4%. So what that is saying is that rates of return have gone down. Obviously, inflation has gone up, and so we can’t rely on this rule of thumb that was built back when markets were averaging 7% to 10% easy returns where you could just buy something in the stock market and then it’s going to go up. I don’t think we have those anymore in our future.

That was one of the comments as well, do you really want to be going off of the 4% rule, understanding that it’s a rule of thumb. The person goes on to say, “Well, it’s a good rule of thumb to understand, but really you should be talking to a financial professional to help you think out not just a withdrawal strategy, but all the other pieces that come with it.” The person that responded actually made a comment towards this thing, which I think is very important, and we talk about it quite a bit. It’s called sequence of returns risk. You can have great returns, but if you start your retirement and your withdrawal phase in a down scenario … Go back to 2022, we came off a great 2019. The markets were up strongly, 2020. Even during the pandemic, the markets were up strongly. 2021, we’re still in lockdown and the markets were up. Great.

Enter 2022, and let’s just say you said, “Hey, my balance has finally reached this peak that I wanted it to hit before I retire. I’m going to retire. In January 2022, I retire.” Here’s this thing called sequence of returns risk. Let’s imagine that in January of 2022 you decided, or you came up with a number that I need to withdraw $5,000 a month to generate the income I need for retirement. Your balance is the highest it’s ever been. Then what we know what happened in 2022 is the markets fell 20%. The S&P 500 right around there. It was a steady decline, a 12-month decline, with really no recovery phases in the middle. It started up and went down for 12 straight months. If you go back and look at it, that’s pretty much what it did.

Go to the person that needs that $5,000 a month, say they’ve got $1 million at the beginning, and then the first month it falls. They withdraw their $5,000. The next month it continues to fall. They withdraw their $5,000. You see where I’m getting at is that if we are withdrawing while we are losing money in the markets, our percentage of withdrawal becomes higher and higher on the total portfolio. The stress on the portfolio becomes higher, and the ability for it to recover, it becomes more difficult because we’re withdrawing on a down asset. So that’s what sequence of returns risk is, is having a scenario where you could end up averaging a 6% or 7% rate of return, but if your first earlier years were down 5%, 10%, 15%, 20%, even though you ended up averaging a good return over time, those first few years are crucial to starting off retirement and starting that withdrawing phase. You can get into a situation where it makes it very difficult to come back off of that.

So having a bit of a strategy in place for withdrawals, not just figuring out, “Hey, I’m going to take it from this account every month.” Well, what is this account set up to do, and what is the risk on this type of account? That’s one thing that this person pointed out, and I would say we strongly agree with that sequence of returns, which is something to be aware of.

The columnist goes on to comment again saying it very nicely that you probably … “I can only speak in general terms. You probably want to talk to someone specific about your situation and your family’s situation because it’s not just about how much money you have. You’ve done a great job of saving and accumulating.” The first thing they point out is, “Well, you’re retiring before 59 and a half.” The person in their question pointed that out too. They said, “I know I’m retiring before 59 and a half, so I’m not going to touch my qualified accounts.” Qualified is a technical term for my retirement accounts, IRAs, 401ks. We get penalties if we withdraw before 59 and a half.

Well then, what do we have left to tap into? It’s our non-retirement accounts. What is important to understand is that there’s also strategies there. If there’s money in 401k and you’re retiring before 59 and a half, you can actually tap into those a little bit earlier at age 55, and most 401ks would allow for that. So that’s something that is worth checking into with your retirement plan if you’re in that scenario.

The other thing that I think is important to think about if someone is retiring early is, it’s actually not listed in this article, but thinking through, we’ve done a good job saving, but how much do we actually need in retirement? We have a big conversation around all of this when we’re working through our process with clients, with people that are interested in what we do, and it’s all about understanding their spending. In our eyes, it’s two simple categories, your needs and your wants. Needs are paying the bills and keeping the lights on, staying fed, and staying relatively happy. Then our wants are the things that we want out of retirement, the exciting stuff, whether that’s travel or hanging out with the kids and grandkids or a membership to something that we never had time for while we were working. [inaudible] what the wants are. Knowing that is going to be crucial, those two columns of needs and wants. Understanding that is going to be crucial to be able to develop somewhat of a withdrawal strategy.

Then if there’s going to be any type of income coming in the door from pension … not Social Security in their case, but for the average retiree, Social Security, they’re going to be retiring after 60. So that’s going to be something to be immediately thinking about.

Also at that earlier retirement age and really before Medicare, before 65, we have to think about heightened cost of insurance. Life … not life insurance, but health insurance, and for a significant period of time. If you’re retiring at 55, well, that’s 10 years of private insurance potentially, which can be pretty expensive. Or if you’re retiring at 60 or 62 even, you still have to cover that gap until you reach 65, where medical now is under Medicare and it can become a little bit more affordable.

The other thing to start thinking about, and this is what I see, is that I see opportunities. If we’re able to retire early at 55 in this person’s scenario, I’m not just wanting to know, well, where do I withdraw from? Now I’m saying, well, where do I withdraw from to make this strategy effective? The strategy is a conversation with me and that person saying, “Well, what are our goals here? We’ve built up sizable qualified accounts, IRA accounts.” Now in the article, I don’t know if it’s all pre-taxed or if there’s Roth money in there, but let’s just assume it’s all pre-taxed. Well, we’ve got from 55 until, in their case, age 75 is when required minimum distributions start. So we’ve got 20 years that we could do some pretty cool stuff to start doing what we call Roth conversion, start converting that pre-tax money to tax-free money.

This does a few things. One, where potentially at a lower tax rate than we have ever been, one, because we’re not working anymore, so our income has gone down. We’re in control of our income to a degree because we’re generating it ourselves. The other is our taxes potentially in the future are going up. So we always have the conversation of, “Well, what are our goals, and what do we really want to focus on?” Then we line to that.

So if I have someone in front of me that says, “I’m worried about taxes, and I’m worried that all of my money is in 401k,” well, then maybe their goal is to start considering Roth conversions over time. That is something that I see very clearly that could be an option for this person that wrote the question in. They got 25 years before, or sorry, 20 years before they have these required minimum distributions, which are forced distributions by the IRS on any of your IRA or pre-taxed assets. If we can dwindle those numbers down by doing Roth conversions, yes, we’re still paying the taxes, but now it’s a strategy that we are employing, and we’re still able to withdraw what we need to cover our lifestyle. Well, now we’re talking about a long term plan and a long term focus that’s going to make the plan for us over time better, but also for leaving money behind even better for the inheritors if they’re inheriting tax-free money versus pre-tax money.

So I think that’s a huge point there as well, is that no matter when you retire, you want to understand, well, what is my retirement plan looking like from a perspective of what’s coming in the door, what’s going to be going out the door, and taking time to think through that, what the actual numbers are, and then what opportunities do I have before I hit certain milestones of my retirement career? One of the milestones is, well, I reached the age where I can take Social Security. I can take it early or I can take it at full retirement age. I can take it at 70. There’s pros and cons to everything.

Another milestone is going to be Medicare, something that is a whole episode in itself is Medicare IRMAA, I-R-M-A-A, which is a surcharge that if you make too much money in retirement, then Medicare is going to put a surcharge on your Medicare premiums Part B and Part D. So it’s one of those things that I tell people is that you turn one knob in retirement, and maybe that knob is taking out money from a taxable account or an IRA. You turn that knob on, and it’s going to move a bunch of other knobs. We want to be aware of what those knobs are and whether that is a penalty or is it a shift in our tax bracket or is it a IRMAA surcharge that’s coming into place that’s going to make our Medicare more expensive? Is it bringing Social Security into more of a taxable status? Those are the things that we want to be looking at from more of a holistic perspective.

I’ll end the episode with this thought here. The person responding to the article, the columnist, the journalist, is saying that now when it comes to a withdrawal strategy, a lot of people are going to think about periods of time or investment strategies for that period of time. We do something very similar. We do something called a bucket approach, which is simplistic by nature. It has some complexities within it, but the idea is we want every one of our clients to be able to explain the why behind why do we do this and why do we do that?

The bucket for us is pretty simple. We’ve got cash, we’ve got safety, and we’ve got growth, and our cash is going to be our bank money. Really, that’s our emergency fund that we’ve been told to keep there. Some of our clients like to have more cash available. Some of our clients like to have less cash available so that they can have their money at work. Whatever that number is to you, we don’t really care, provided that it does not impact the retirement plan.

Then we have our safety bucket, and our safety bucket is there to speak to that idea of sequence of returns risk. If we have a bucket, an investment segment that can make a return, but it’s low risk, it’s not really subject to market volatility. The markets go up and down, up and down, and that’s where sequence of return risk comes into play. If we can take away the volatility of the market and we can make a return, well, all of a sudden we have predictability in now our plan. If our safety bucket is where we are primarily drawing from and we’re never worried about this bucket going down due to a market crash or a 20%, 30% dip in the S&P, well then now we’ve almost alleviated the sequence of returns risk.

Then, now we have our third and final bucket, which is growth. Growth is there for the longer term. Growth is there to have volatility. Growth is the stock market. We know it’s going to go up. We know it’s going to go down. Over time, it is going to go up. We have to give it the time to do that. If we are tapping into it every single month for our $5,000 a month that we need to live off of, well, it hinders its ability to do what? It hinders its ability to grow over time. Now, we can tap into it if we need it for a vacation or an emergency. It is a liquid bucket. It is the stock market. If we need it, we can tap into it. But imagine if we only use it once a year versus every month on the first of the month to get our expenses out. All of a sudden, this bucket has the ability to sit and do what it’s going to do, which is grow over time.

That’s really the simplistic view of how we approach the bucket system and really a withdrawal strategy. A withdrawal strategy to me is, let’s have things set up to where we’ve got risk in alignment, we’ve got predictability in alignment, and we’ve thought about our goals. If our goal is Roth conversions for the next generation, well, that is going to be one type of withdrawal strategy. If our goal is just to keep our taxes as low as possible, that is going to be a different type of withdrawal strategy. These are the things that we want to be talking about in our retirement focus financial strategy meetings.

I think this article, again, we’ll put the link in the show notes, but I think this article is really good just to reiterate that not everyone does this for a living and people have these questions. We get these questions all the time. They’ve got $4.5 million. I’ll tell you, the person that has $10 million has the same questions. Person that has a few hundred thousand has the same question. Have I done a good enough job? Can I actually retire at the date that I want to retire? And how does this all play out? This isn’t my area of expertise, so what are the questions that I should be asking? What do I not know that I should know?

But all in all, I hope you enjoyed this episode. I thought it was a good article to bring to our podcast and make it a little bit more relatable. But obviously, there’s going to be a blog article written on this episode if you like to read rather than listen. But thanks for tuning in, and we will talk to you next Monday.