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October 27, 2022 at 07:01 PM
What You Need to Know
- The 4% withdrawal rule is about as likely to cause over-spending as it is to cause under-spending for any given retiree.
- Developments in the annuity marketplace are important for advisors and clients to understand.
- The broad move away from commission-based business towards fee-based fiduciary advisory work is also helping to remake the income landscape.
Three experienced retirement industry professionals sat down with a handful of journalists Wednesday in New York for a roundtable discussion about an oft-debated, timeless topic in the world of financial planning: the 4% withdrawal rule.
The speakers included David Lau, founder and CEO of DPL Financial Partners; David Blanchett, managing director, head of retirement research, PGIM DC Solutions; and Shannon Stone, lead wealth advisor at Griffin Black Inc.
At a high level, their trio agreed that the 4% withdrawal rule represents one of the most misunderstood and misinterpreted pieces of common wisdom in the world of financial planning.
As Blanchett points out, the rule itself is merely a mathematical framework that suggests a given individual in retirement should add up all of their investments and simply plan to withdraw 4% of their total wealth during their first year of retirement, with the withdrawal amount then being adjusted annually to account for inflation.
“When the rule was first put forward it represented a novel and interesting analysis,” Blanchett says. “It demonstrated that a retirement strategy with 50% in U.S. stocks and 50% in government bonds would have survived each 30-year period in the U.S. historical record from 1926 to 1991 — so long as the asset owner withdrawals no more than 4% per annum during that period.”
That is a very useful piece of information to know, Lau says, but it is not a “retirement income plan.”
“Our criticism today is not about the research itself or the methodology— it’s about the application,” Lau says. “Simply put, the 4% withdrawal rule was never meant to be a real retirement plan. It is meant to be a guideline for the use of a portion of your retirement assets – the 401(k) plan or individual retirement account. Far too many advisors and clients are using this as their income plan.”
As Stone emphasizes, in the real world, retirement income planning is scary for clients who have spent a working lifetime accumulating assets and watching their account balances grow. It makes sense that they would gravitate towards an easily digestible rule of thumb that promises a measure of safety, even if the rule is not of much use in practice.
The trio suggests advisors often gravitate to the rule for this same reason — the projection or idea of safety.
“The rule gives advisors an easy way to speak with their clients about the market roller coaster they are likely to experience during their retirement period,” Blanchett says. “It’s a great way for advisors to project a feeling of security onto a strategy built upon investments that carry inherent risk.”
