April 29, 2018
Every week, Simply Money’s Nathan Bachrach, Ed Finke and Amy Wagner are answering your financial questions in The Cincinnati Enquirer. If you, a friend, or someone in your family has a money issue or problem, please feel free to send those questions to firstname.lastname@example.org
James in Madeira: Is the 4% rule something I should be following once I retire?
Answer: William P. Bengen, a retired financial advisor, came up with the “4% withdrawal rule” for retirees in the early 1990s. It was considered the “maximum historic ‘safe’ withdrawal rate.” The premise is that if you take out four percent from your accounts in your first year of retirement (then adjust that amount each ensuing year for inflation), you’ll never run out of money.
This rule was put into place to help retirees make their money last longer and eliminate the fear of outliving their retirement savings. However, things have changed since 1990. For example, when this rule was introduced, the 10-year Treasury rate was about 8.2 percent - today, it’s about 2.9 percent. Additionally, the historical assumption that the stock market will return 10 percent every year is also outdated (you should expect less).
And it’s not just the markets that can impact your withdrawal rate. There are two key factors this rule does not include. The first is rising medical and healthcare expenses. According to our research at Simply Money Advisors, the average 65-year old couple will spend about $350,000 on healthcare throughout their retirement years (this number factors in inflation and assumes the couple will live to their early 90s). When planning for retirement, this should be a large part of your retirement savings. You could look into opening a Health Savings Account (HSA) to help cover the cost of healthcare in retirement.
The second key factor this rule doesn’t include is taxes. When you look at your traditional IRA or 401(k), you may think it’s larger than it actually is. If you have $100,000 sitting in your traditional IRA and are in the 12 percent tax bracket, you really only have $88,000. Why? You still have to pay income tax on all your withdrawals! However, if you have a Roth IRA (or Roth 401(k)) you will not have to pay taxes on your withdrawals (assuming you’re older than 59 ½ and have held the account for more than five years).
The Simply Money Point is that the 4% rule may be a good starting point, but you should work with a trusted financial planner to help you develop a personalized financial plan that works best for you and your financial situation. We recommend a CERTIFIED FINANCIAL PLANNER™ or Chartered Financial Consultant®.
Danielle from Fort Mitchell: Is there any investment that’s actually risk-free? I would like my principle to always be protected.
Answer: The truth is, there is no risk-free investment. Even stuffing cash under your mattress comes with the risk of inflation eating into your purchasing power!
The amount of risk an investment has can determine the return you will receive, but there are no guarantees. For example, if you choose to purchase an individual stock, there is no guarantee you will receive back the amount you invested or even make a profit. But you could also receive a larger profit. This is why investing in stocks comes with higher risk.
If you want to lower your risk you could invest in government bonds or FDIC-insured savings accounts. With these types of investments you may not have to worry about losing your principle, but the interest rate you receive may not keep up with inflation. Therefore, like stuffing your cash under your mattress, this would lower your buying power in the future.
Simply Money Advisors recommends diversifying your investment mix. This would mean that your investment mix is made of a variety of investments, such as stocks, bonds, cash, and, when it makes sense, even alternative investments (like gold, real estate, etc.). This can lower your risk because if one of your investments is down, it may not affect your entire investment mix. This will also lessen the impact of market volatility (large swings in the market).
The Simply Money Point is that all investments come with risk. However, being appropriately invested for your personal risk tolerance should help better protect your financial future.
Responses are for informational purposes only and individuals should consider whether any general recommendation in these responses are suitable for their particular circumstances based on investment objectives, financial situation and needs. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing, including a tax advisor and/or attorney. Nathan Bachrach and Ed Finke and their team offer financial planning services through Simply Money Advisors, a SEC Registered Investment Advisor. Call (513) 469-7500 or email email@example.com.