Retirement Planning CI BDF Private Wealth Wealth Planning Tax Planning

Death of the 4% sustainable withdrawal rate?

Recently, the well-known 4% withdrawal rate rule of thumb has come under fire. For those not familiar, the 4% withdrawal rate comes from research by William Bengen, which demonstrated that, based on a historical analysis of stock and bond returns, retirees could withdraw up to 4% of their portfolio’s value each year over a 30-year time horizon without fear of outliving their money.

Well, a new study by Morningstar has made a lot of headlines by challenging this research—asserting that because of low bond yields and high equity valuations, future portfolio returns will be lower than in the past, resulting in a lower retirement sustainable withdrawal rate of 3.3%.

So, what was William Bengen’s response to Morningstar’s findings? Interestingly, he redid his research based on Morningstar assumptions and actually increased his expectation for a sustainable portfolio withdrawal rate to 4.7%.

What’s the right answer then? Honestly, probably somewhere in between, which happens to be 4%.

That said, from our perspective, there are a few key considerations we have gleaned from our years of helping clients:

Over time, averages play out

For most clients, we plan for a 30-50-year time horizon. And, while averages can be skewed in the short-term, over 30-year+ time periods, making drastic changes to long-term return or retirement assumptions tends to be short-sighted.

Tax-efficient portfolio management

While there have been many studies on the 4% withdrawal rate, all admittedly neglect the impact of good portfolio tax planning. Two examples include:

  1. Tax Loss Harvesting: Monitoring for the opportunity to sell investments at a tax loss seems simple, but is often overlooked when planning for the future. The key to tax loss harvesting is not only selling and recognizing the loss, but also simultaneously buying a similar investment, so you don’t sacrifice investment exposure and return. A recent study by George Mason University’s Business School found returns could be increased by 1.1% to 1.42% annually through this strategy.1
  2. Asset Placement: Also known as “asset location,” this is the process of optimizing the tax characteristics of your investments through the thoughtful use of different types of accounts (taxable, retirement, etc.). While more complex to implement, according to Vanguard, executing asset location well can result in additional return of up to 3%.2

Proactive annual tax planning

Outside of the portfolio, annual personal tax planning is key to increasing retirement success and withdrawal rates. Your tax situation will evolve over your lifetime and can present various opportunities to set yourself up for long-term tax savings and flexibility. For example, for many, from retirement until age 72 (the start of Required Minimum Distributions), there is a good chance you will be at your lowest lifetime tax rate, creating opportunities for Roth Conversions or IRA withdrawals at a very low tax rate that exponentially saves taxes over your lifetime.

Strategic philanthropy

If you have charitable intent, there are numerous strategies, like donor-advised funds, gifting of appreciated securities, and giving your Required Minimum Distributions to charity that can save thousands in taxes if done wisely over time.

Staying the course has the biggest impact on a financial plan

According to the Dalbar study on investor behavior, over the last 20 years, the average equity investor has gained 5.96%, while the Global market equity index has returned 8.29%. That 2%+ gap, according to Dalbar, is almost solely due to investor behavior—overconfidence, failed market timing, short-term focus, etc., reiterating the importance of staying the course.3

When calculating long-term withdrawal rates, it is unwise to look at market returns in a vacuum. Remember that your goals, tax situation, investment makeup, and emotions are unique. In our experience, a disciplined investment strategy and comprehensive financial plan are the best indicators and predictors of retirement success and withdrawal rate. For more information, contact your CI Private Wealth advisor today.

 

1 Just How Valuable Is Tax-Loss Harvesting? By Dr. Horstmeyer https://www.wsj.com/articles/tax-loss-harvesting-valuable-tax-breaks-11638390838
2 A study by Gobind Daryanani estimated the added benefit of optimizing asset location to be between 0.1% and 0.3%. This was reflected in Vanguard’s study “Asset Location for Taxable Investors”
3 DALBAR’s Quantitative Analysis of Investor Behavior, 2020.


ABOUT THE AUTHOR

BDF LLC is a private wealth management firm. We provide personalized investment management and financial planning. We manage approximately $5.9 billion in assets for business owners, women, individuals and families, and institutions.

We also have Practice Groups that specialize in the unique needs of:

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