How to plan withdrawing rates for pension

Thockley

I would like to hear how people plan their rate of withdrawal from their pensions and savings after retirement so savings don't run out.

The advice seems to be that you can assume to withdraw between 3%-4% of your savings each year. But practically, how do you do that? Do you rebalance your portfolio, then sell 3-4% of each fund/investment so as to keep the balance?

Also how do you decide what rate of inflation to use each year if you want to check that your portfolio value after withdrawals has kept pace with inflation? There seem to be various measures of inflation but which most reflects the real cost of living?

dunstonh

The advice seems to be that you can assume to withdraw between 3%-4% of your savings each year.

That would be very risky on savings as you would be eroding the capital which see the money run out much quicker. With investments, it would depend on finding the balance between financial need, capacity for loss, risk of the assets, time-scale and personal preference to whether capital erosion can happen or not.

Do you rebalance your portfolio, then sell 3-4% of each fund/investment so as to keep the balance?

The three main methods used (each having pros and cons) are:
1 - yielding investments. Live off the yield.
2 - segment the investments to cater for the different timescales that parts of the money will be invested and keep enough cash to cover a year or two income
3 - invest in a balanced portfolio which you keep rebalanced and make withdrawals from that.

Also how do you decide what rate of inflation to use each year if you want to check that your portfolio value after withdrawals has kept pace with inflation?

Everyone has their own personal inflation rate depending on how they spend. So, you use a rate that is appropriate to you.

gadgetmind

dunstonh wrote: »

invest in a balanced portfolio which you keep rebalanced and make withdrawals from that.

That would always be my choice. The problem with eating into cash and bonds when equities dive is that, 1) you're stuffed if equities haven't recovered by the time your safe assets run out. 2) you don't benefit from the cheaper equities as when they're cheap is when you should be buying.

So, keep (say) 5% of your portfolio in cash, draw down perhaps as much as 4% of this over the year, and then rebalance in a year's time. By then, some dividends will have come in, equity and bond prices will have moved against each other, so you sell/buy as appropriate to get back to 5% cash and the right equity/bond mix.

During very bad times, you might need to reduce that 4%. However, I'm planning to do this by continuing to drawdown hard on my pension for tax efficiency and put excess into ISAs/unwrapped.

Thockley

dunstonh wrote: »

That would be very risky on savings as you would be eroding the capital which see the money run out much quicker. With investments, it would depend on finding the balance between financial need, capacity for loss, risk of the assets, time-scale and personal preference to whether capital erosion can happen or not.



The three main methods used (each having pros and cons) are:
1 - yielding investments. Live off the yield.
2 - segment the investments to cater for the different timescales that parts of the money will be invested and keep enough cash to cover a year or two income
3 - invest in a balanced portfolio which you keep rebalanced and make withdrawals from that.



Everyone has their own personal inflation rate depending on how they spend. So, you use a rate that is appropriate to you.

3-4% withdrawal per year being risky and the money running out - I put "savings", but meant investments. My retirement SIPP and ISA is all invested in a broad basket of equity trackers.

I think option 3 is the one best suited.

I don't know how to decide on a personal inflation rate. There can be costs and expenses that are unique to every year, the car, a roof repair, whatever. Whatever withdrawal rate I decide on, say 4%, I will have to live within it. But I would like to know where I can find a practical idea of the real living costs rate of inflation for the previous year when rebalancing and withdrawing from the portfolio each year, so that the remaining fund size can continue to grow in line with inflation. If it does not, then I could make the decision to reduce my withdrawal rate accordingly. If the inflation rate is low and suggests I could increase the withdrawal rate I can decide to leave the money invested as a buffer against future weaker growth or higher inflation. But it would be good to know where to get a benchmark for real inflation to make this decision.

dunstonh

That would always be my choice.

I prefer the balanced approach as growth options should be not be ignored. Although I often run a hybrid. i.e. keep enough cash to cover 12-18 months of withdrawals (saves drawing money off the investments in most minor corrections). Use yielding investments in the sectors where yielding is going to happen naturally (and perhaps UK equity income). Have that income paid into the cash account (this can allow you to extend the 12-18 months provision without having to sell investments if things are negative or reinvest some in the rebalance if the cash level has gone above needed). Then periodically rebalance.

I don't know how to decide on a personal inflation rate. There can be costs and expenses that are unique to every year, the car, a roof repair, whatever. Whatever withdrawal rate I decide on, say 4%, I will have to live within it.

Create a spreadsheet going forward showing when you expect capital items to be paid out and factor that into your annual draw. The further ahead you go in time, the less accurate it will be but it gives you a starting point. Then keep it up to date with latest balances and expectations. Always overestimate expenditure. On budget planning, people nearly always end up with a lower figure than reality. Usually as they forget something or underestimate their discretionary spending (restaurants, holidays, going out etc). So, bump it up with an extra figure there.

gadgetmind

The official figures are CPI and RPI, but as dunstonh says, these "baskets" probably won't reflect what you're spending your money on.

As for the 4% figure, as mentioned, it's a little high, and it also depends on your timescale, whether you have other income now or in the future, and much more.

Thockley

gadgetmind wrote: »

That would always be my choice. The problem with eating into cash and bonds when equities dive is that, 1) you're stuffed if equities haven't recovered by the time your safe assets run out. 2) you don't benefit from the cheaper equities as when they're cheap is when you should be buying.

So, keep (say) 5% of your portfolio in cash, draw down perhaps as much as 4% of this over the year, and then rebalance in a year's time. By then, some dividends will have come in, equity and bond prices will have moved against each other, so you sell/buy as appropriate to get back to 5% cash and the right equity/bond mix.

During very bad times, you might need to reduce that 4%. However, I'm planning to do this by continuing to drawdown hard on my pension for tax efficiency and put excess into ISAs/unwrapped.

Thank you gadgetmind. This sounds like an interesting approach - would you mind expanding on it as I'm not sure I fully understand the method:

'Eating into cash and bonds' - what do you mean? What is this process you refer to?

You seem to suggest keeping 5% of the investment portfolio in cash, (constantly keeping 5% in cash, on top of the cash you have previously withdrawn the previous year and are currently living off?). I cannot see the material difference between this and having a portfolio of just equities/bonds, and withdrawing 4% of the value after rebalancing. What is the value of also keeping 5% of the portfolio uninvested as cash?

Can you expand on the process/logic?

Thanks!

Thockley

dunstonh wrote: »

I prefer the balanced approach as growth options should be not be ignored. Although I often run a hybrid. i.e. keep enough cash to cover 12-18 months of withdrawals (saves drawing money off the investments in most minor corrections). Use yielding investments in the sectors where yielding is going to happen naturally (and perhaps UK equity income). Have that income paid into the cash account (this can allow you to extend the 12-18 months provision without having to sell investments if things are negative or reinvest some in the rebalance if the cash level has gone above needed). Then periodically rebalance.



Create a spreadsheet going forward showing when you expect capital items to be paid out and factor that into your annual draw. The further ahead you go in time, the less accurate it will be but it gives you a starting point. Then keep it up to date with latest balances and expectations. Always overestimate expenditure. On budget planning, people nearly always end up with a lower figure than reality. Usually as they forget something or underestimate their discretionary spending (restaurants, holidays, going out etc). So, bump it up with an extra figure there.

Thank you dunstonh,
Can you give me any examples of what type of funds are 'yielding investments in the sectors where yielding is going to happen naturally (and perhaps UK equity income)'?
And is this approach meaning that the yield (dividends?) is paid into a cash account instead of being reinvested, and growth in the portfolio is then left to the underlying share prices?

gadgetmind

Thockley wrote: »

'Eating into cash and bonds' - what do you mean? What is this process you refer to?

Someone people suggest a "bucket" approach, where near term needs are kept as cash, next layer as bonds, and the rest as equities. The idea is that if equity values drop, rather than rebalancing, you use cash and bonds instead.

I'm no fan.

I cannot see the material difference between this and having a portfolio of just equities/bonds, and withdrawing 4% of the value after rebalancing. What is the value of also keeping 5% of the portfolio uninvested as cash?

Most people want to draw down month by month but only rebalance once a year to avoid costs and hassle. This means you're going to start each year with 5% in cash and finish with maybe 3% as you'll have subtracted 4% but received maybe 2% in dividends.

Of course, you can target for more dividend income, but this restricts investment choice. Typically, more dividend income to start with means less growth over the long term, but this is contentious!

Dunnit

Why doesn't a company offer a scheme where you give them your pension pot and they agree to invest it and give you a set amount each month with a link to inflation? You wouldn't have to worry whether you lived another 5 or 45 years.

gadgetmind

And don't forget "if you die early, they trouser the lot leaving nothing for descendants".