Should You Lower Withdrawals from Retirement Savings?

One of the most important decisions you can make in retirement is how much money to withdraw from your nest egg each year. It’s often a balancing act between enjoying the retirement savings you’ve spent decades accumulating while making sure that those savings don’t run out.

Conventional wisdom, based on an influential 1994 paper by financial advisor William Bengen, holds that most retirees can safely withdraw 4% from their portfolio in their first year, adjusting the amount they withdraw in subsequent years based on inflation. More recent research by investment research firm Morningstar pegged the starting withdrawal rate at 3.3% to keep a portfolio from being eaten away by inflation.

While these are useful rules of thumb to estimate how much money you can take out of your retirement savings each year, the best path forward for you may not be the same for someone else. Because everyone’s financial needs are different, here are some key considerations to think through as you figure out the drawdown rate that makes sense for your financial situation.

Your Lifestyle

Some people want to spend their retirement traveling the world, while others dream of volunteer work. For many, retirement falls somewhere in between. The key is determining how you expect to fill your days when you’ve finished working and understanding how much that plan might cost. Often, people spend the most money in their first few years of retirement and then scale back their spending over time as they age.

Guaranteed Income

While pensions have become far less prevalent in today’s workplace, 15% of private industry workers and 86% of government workers still have access to a defined-benefit retirement plan at work. Any pension income you might have, along with Social Security and annuity income, can lower the amount you need to withdraw from your retirement accounts each year—or the amount that you’ll need in the future.

The Length of Your Retirement

Simple math holds that the longer your retirement lasts, the less money you’ll be able to take out of your retirement accounts each year. While it’s impossible to know exactly how long your retirement will last, you may be able to make some projections based on your personal health and the longevity of your parents. One factor you can control: when you retire. The longer you work, the fewer years you’ll need to cover your retirement income. Even a part-time job held for a portion of your retirement could mean the ability to make much lower withdrawals, leaving more of your savings intact to tap into later.

Following the Market

The sequence of returns is one of the biggest factors that determines how long your retirement funds last. Large withdrawals made during a down market early in retirement can have an outsized impact on the longevity of that account. Some advisors suggest keeping a cash reserve with one to two years’ worth of expenses in your first few years of retirement so that you’re not forced to sell securities at a loss. Even if that’s not an option, lowering the amount that you withdraw while markets are down can be a smart long-term strategy.

Long-Term Care

The cost of medical care later in life represents one of the largest expenses that most retirees face. One study found that a 50-year-old couple has a 75% chance of at least one member needing long-term care at the end of their life, costing an average of about $200,000 per person. If you don’t have long-term care insurance, you may want to set aside a portion of your savings to cover this potential expense—and lower your withdrawal rate earlier to account for it.

Your Estate Plan

If leaving a financial legacy, either to charities or your family, is important to you, that’s another reason to potentially lower your withdrawal rate to ensure that there’s money left after you’ve passed away. If, on the other hand, you’d rather spend (or give away) your money while you’re alive, you might consider increasing your withdrawals to allow you to do so.

Also, remember that you need to make required minimum distributions from tax-advantaged retirement accounts like IRAs or a 401(k) once you reach age 72 (or 73 if you reach 72 after Dec. 31, 2022.) But you are not required to spend it immediately.

Determining the right withdrawal rate for you is a complicated financial decision that involves many factors, including your risk tolerance, ability to adjust your spending over time, and your current and future financial priorities as well as market factors such as inflation and investment performance. Given the complexity, you should meet with a financial planner well before starting retirement because some decisions about things like pensions and Social Security need to be made before retirement actually begins.