If there were such a thing as a “default” income planning strategy, systematic withdrawals might be it. While its popularity doesn’t limit its usefulness or effectiveness, this is the approach that is automatically used when no other approach has been chosen.
Therefore, it makes sense to spend some time better understanding the philosophy behind systematic withdrawals as well as the nuances that every advisor should consider when employing this method with retired clients. After all, having one’s life savings on the line should warrant more than a cursory understanding of the mechanics to ensure success.
Systematic withdrawals can be simply defined as drawing a predetermined rate or dollar amount from an investment portfolio each year to generate retirement income.
First, let’s define what “success” means to the client who is seeking lifetime income from their portfolio. Standard literature defines retirement income success as not running out of money before death, at a pre-determined withdrawal amount (not rate).
That means a 4 percent withdrawal rate was successful for the client when they pass away with money remaining, after having received the pre-determined amount of money each year from their portfolio. This is a very important distinction to make. I’ll say it another way: a 4 percent withdrawal rate is always possible because no matter how much the dollar amount of the withdrawals are, one can always take 4 percent per year out of the account (Remember studying the asymptote, the curve that never reaches the axis?).
However, this does not mean the client’s income plan was successful, because they may not have achieved the desired income level.