Money Matters
5:00 am
Tue May 8, 2012

How fast should you spend your IRA in retirement?

Retirement planning can be hard. Traditional, defined benefit pensions are going the way of the dodo bird. The majority of us will depend on a mix of Social Security, IRAs and 401(k) plans.

On this week's Money Matters, financial commentator Greg Heberlein and KPLU's Dave Meyer look at the best way to take money out of your IRA during "the golden years".

Conventional wisdom has been that when it comes to withdrawing annual amounts from your IRA account, 4% of the total is a fair and reasonable number. 

With the market crash of 2008, that number has been questioned. Many now say less should be withdrawn. Some retirement pros go as low as 1.8%.  Many recommend 2% to 3%.

But Greg says you should take out more, perhaps up to 6% a year. 

Why?

Retirees want to make sure their retirement pool exists through life’s end. If you are 65, and you and your spouse live to 95, a 4 percent a year withdrawal will dry up your IRAs several years too early.

But what are the chances both of you will reach 95?

There is a one in six chance either will live until 95. The odds of both making age 95 is less than one in 10.  So to make your IRA money last until age 95 faces stiff odds to begin with. At age 65, life expectancy is much closer to 20 years than 30.

Estimates of how long the money will last depend on a variety of less predictable issues. Inflation and how much the money still in the IRA will earn are two big factors. Another is the problem of getting older. As aging occurs, taking long vacations requiring a good deal of physical activity diminish.

Seniors have certain financial pluses. In general, seniors no longer have a mortgage, no longer face child-raising or college expenses. Expenses related to work – more frequent wardrobe changes, transportation costs, eating lunches out – evaporate or are minimized. You might not buy a new car as often.

The decision of how much to withdraw from an IRA depends on other resources that may be overlooked. Besides IRAs, almost all are entitled to Social Security. For those 55 and older, chances of reductions in Social Security are almost non-existent. Many have some form of pension.  Many have investments and savings outside of IRAs. 

It may not be pleasant to consider, but eventually one spouse will be widowed. Financially caring for one instead of two will significantly reduce the amount of IRA money necessary.

Those who recommend withdrawing less than 4 percent have revised their numbers in part because of the 2008 stock market crash. They factor in retirees holding at least 50% of their IRA in stocks. That contradicts recommendations of financial gurus such as John Bogle and Benjamin Graham, who recommend as little as 25 percent in stocks after retirement.

Greg tends to be financially conservative. His bond holdings always have been greater than his stock holdings.  But in this case, he is compelled to side with those who recommend a minimum withdrawal no lower than 4%, and thinks 6% is manageable for many.

Six percent is a radical change from four when you consider that it translates into a 50% increase. For each $100,000 you have in an IRA, 6% gets you $6,000 a year instead of $4,000. At $500,000, that means $30,000 instead of $20,000. Add that to Social Security and a pension and you’re talking real money.

Also, keep in mind that your choices are limited when you reach the age of 70. That's when the government minimum required distribution goes into effect. Roughly speaking, you'll have to take out at least 3.7% of your IRA at 70, and at least 8.8% per year by age 90.

Kiplinger's has a minimum distribution calculator. You can find the IRS rules in Publication 590.

A higher withdrawal rate can make a big difference in the quality of your retirement, especially in the earlier years when you would expect to be more active. But like so many things financial, each person needs to assess the situation and determine their own best option. Retirement raises enough anxiety as it is.