Drawdown: safe withdrawal rates

Linton

BananaChairs said:

Hi Everyone.
I’ve been studying this thread - and others like it - for some time, but must admit how daunting I find it all. And that’s coming from someone with 20 years’ financial services experience!

So I was hoping if I gave some details of my situation, some kind person could…I don’t know really….general advice, “just keep reading” or whatever!

I’d also like some thoughts about maybe seeing an IFA; but in my experience they don’t cover “this kind of thing”; or maybe I’ve been looking in the wrong place? I’m comfortable with asset allocation and choosing funds myself, but would pay for good advice (not just “we’ll put it in xxxx multi-asset fund for you, that’s 1% please”).

So.  My situation.  I have started to think about “what’s next”. And when can I just stop earning (or face a massive reduction) to do more worthwhile things.
I’m about to turn 40 (but have been mulling this over for some time, this isn’t knee jerk MLC). No kids/mortgage and a partner in pretty much same financial position as me (so the situation is really much better; but for both of our peace of minds, keeping separate)

I am well compensated (~£90k) for a job I find “ok”. For the last few years and the foreseeable future I contribute £40k to pension (£30k ee, £10k er), £20k ISA (inc. £4k LISA) and ~£10k into VCT/crowdfund.

What I have;

450k = Retirement Savings (SIPP/LISA)
230k = “liquid” savings (S&S ISA, cash)
70k   = “illiquid” savings (VCT, crowdfunding (very prudently valued!)
plus;
DB pension with an access age of 62, current value of £7.5k pa (CPI increasing). Transfer value was given as £300k in April 21.
24 years of full contributions re. state pension
(I maintain £20k in cash in addition to the above, topped back up each month from salary)

I can live comfortably on £25k pa which is within the SWR for a pot of £680k (retirement + liquid) but with the complexity that I can’t access “retirement” for at least 17 years but it could be supplemented with dividends/exits from the “illiquid” pot.

It feels like I should/could model this myself…but I just can’t (per opening para) and I end up frustrated, I drop it for a bit, then pick it back up and a frustrating cycle ensues. I’ll understand if there’s eye rolling, “nice problem to have”, “first world issues” and I’ll take those on the chin.  But any guidance would be greatly appreciated!

The first step is to get a rough plan:

For example:

You can split your retirement into different phases.  What total income do you need a year, is it £25K?  Your DB starts at 62. Assume you want to stop working at 60.

What extra income do you need?

Working backwards in time, ignoring inflation and tax

1) From State Pension Age (say 68) you should get your DB pension £7.5K and your full State Pension  (call it £9K in round figures) at current prices.  That  is a total of £16.5K so you need to find £8.5K/year extra indefinitely 
2) From 62 to SPA your income is £7.5K + £8.5K as an SWR=£16K  so you need to find  £9/year for 6 years=£54K
3) From 60 to 62 your income is £8.5K as an SWR so you need to find  £16.5K/year for 2 years= £33K

What lump sum will need to you generate the extra income?
1) 68+
£8.5K/year as an SWR, assumed to be 3.5%,  would require a pot of say £8.5/3.5%=£250K in round figures.  SWR means that it is inflation linked.
2)62-68
£54K which will need to be increased with inflation
3) 60 to 62
£33K which will need to be increased with inflation.

So that gives a total of £337K.  You could add in tax perhaps to make it £400K pessimistically if most of your retirement funded is from taxable income

Conclusion
Provided you can increase your assets with inflation you have far more than sufficient now to retire at 60.  And this is assuming your DB pension does not increase in value between now and retirement.

You can change the rough plan for earlier retirement dates or higher expenditure

Some Other points
1) You can't make your plans independently of your spouse's unless your finances are completely separate.
2) You can't get at LISAs until 60  (I think) and SIPPs until say 58  So you need to ensure you have sufficient accessible money in S&S ISAs if you want to retire earlier than 60.
3) Are you sure about £25K as total income? is that what you are spending now?  In my view it is not a good idea to assume expenditure in retirement to be very different to that whilst in work, igniorng expenses that wont apply.
4) As you seem to have plenty of money you need not invest over-adventurously though it is important that you at least match inflation.

westv

I've had a bit of Monday brain fog! 
Does your portfolio for any withdrawal percentage include all your money - bank accounts, PBs, ISAs, SIPPs etc etc. or does it just include money invested in ISAs, SIPPs or similar?
I should know this!  

QrizB

I'm no expert (others who are will be along shortly) but I think it should include all the assets you plan to draw down. So everything in your list, but not eg. your primary home.

DairyQueen

westv said:

I've had a bit of Monday brain fog! 
Does your portfolio for any withdrawal percentage include all your money - bank accounts, PBs, ISAs, SIPPs etc etc. or does it just include money invested in ISAs, SIPPs or similar?
I should know this!  

For us, it depends on whether the asset is included as an income stream. 

We have ring-fenced assets for capital expenses, emergency fund and in order to suspend drawdown; those (all cash) sources are excluded from the drawdown portfolio. The balance of our liquid assets (cash/SIPPs/ISAs) sum to our drawdown portfolio. The majority of our drawdown portfolio is wrapped. This is the asset base that I use to determine our SWR. For us, that's a max of 3.5% but we are front-loading so a little more in the next 3 years and less in the years following.

Audaxer

westv said:

I've had a bit of Monday brain fog! 
Does your portfolio for any withdrawal percentage include all your money - bank accounts, PBs, ISAs, SIPPs etc etc. or does it just include money invested in ISAs, SIPPs or similar?
I should know this!  

Let's say for example you have £200k invested in a medium risk portfolio with say 60% equities, and an additional £100k in cash savings. If you look at the £300k as the whole portfolio for drawdown, your £120k of equities only represents 40% of the £300k, so if you were thinking of drawing down 4% (£12k increasing with inflation, from £300k) then I'm not sure that would last for a 30 year retirement. However if you have a State Pension due in the relatively near future, which will reduce your income requirements from your portfolio, it would probably be perfectly safe to draw 4% or more from the total amount, as you will be able to reduce your drawdown amount once you start getting your State Pension.

bostonerimus

The mathematical models used to derive withdrawal rates can use whatever asset allocation you like, however, I've never seen them include cash. They usually use broad US stock and bond indexes in varying percentages.

Prism

bostonerimus said:

The mathematical models used to derive withdrawal rates can use whatever asset allocation you like, however, I've never seen them include cash. They usually use broad US stock and bond indexes in varying percentages.

I would say that is because normally bonds would be expected to do the heavy lifting during equity downturns and they paid a better return at the same time. As it stands cash, including savings accounts offers a better return than bonds and is lower risk. Hence the frequent talk of x number of years in cash as a buffer. Historically a cash buffer was never needed but maybe now cash is better than bonds - at least until QE ends.

Triumph13

Linton said:

BananaChairs said:

Hi Everyone.
I’ve been studying this thread - and others like it - for some time, but must admit how daunting I find it all. And that’s coming from someone with 20 years’ financial services experience!

So I was hoping if I gave some details of my situation, some kind person could…I don’t know really….general advice, “just keep reading” or whatever!

I’d also like some thoughts about maybe seeing an IFA; but in my experience they don’t cover “this kind of thing”; or maybe I’ve been looking in the wrong place? I’m comfortable with asset allocation and choosing funds myself, but would pay for good advice (not just “we’ll put it in xxxx multi-asset fund for you, that’s 1% please”).

So.  My situation.  I have started to think about “what’s next”. And when can I just stop earning (or face a massive reduction) to do more worthwhile things.
I’m about to turn 40 (but have been mulling this over for some time, this isn’t knee jerk MLC). No kids/mortgage and a partner in pretty much same financial position as me (so the situation is really much better; but for both of our peace of minds, keeping separate)

I am well compensated (~£90k) for a job I find “ok”. For the last few years and the foreseeable future I contribute £40k to pension (£30k ee, £10k er), £20k ISA (inc. £4k LISA) and ~£10k into VCT/crowdfund.

What I have;

450k = Retirement Savings (SIPP/LISA)
230k = “liquid” savings (S&S ISA, cash)
70k   = “illiquid” savings (VCT, crowdfunding (very prudently valued!)
plus;
DB pension with an access age of 62, current value of £7.5k pa (CPI increasing). Transfer value was given as £300k in April 21.
24 years of full contributions re. state pension
(I maintain £20k in cash in addition to the above, topped back up each month from salary)

I can live comfortably on £25k pa which is within the SWR for a pot of £680k (retirement + liquid) but with the complexity that I can’t access “retirement” for at least 17 years but it could be supplemented with dividends/exits from the “illiquid” pot.

It feels like I should/could model this myself…but I just can’t (per opening para) and I end up frustrated, I drop it for a bit, then pick it back up and a frustrating cycle ensues. I’ll understand if there’s eye rolling, “nice problem to have”, “first world issues” and I’ll take those on the chin.  But any guidance would be greatly appreciated!

The first step is to get a rough plan:

For example:

You can split your retirement into different phases.  What total income do you need a year, is it £25K?  Your DB starts at 62. Assume you want to stop working at 60.

What extra income do you need?

Working backwards in time, ignoring inflation and tax

1) From State Pension Age (say 68) you should get your DB pension £7.5K and your full State Pension  (call it £9K in round figures) at current prices.  That  is a total of £16.5K so you need to find £8.5K/year extra indefinitely 
2) From 62 to SPA your income is £7.5K + £8.5K as an SWR=£16K  so you need to find  £9/year for 6 years=£54K
3) From 60 to 62 your income is £8.5K as an SWR so you need to find  £16.5K/year for 2 years= £33K

What lump sum will need to you generate the extra income?
1) 68+
£8.5K/year as an SWR, assumed to be 3.5%,  would require a pot of say £8.5/3.5%=£250K in round figures.  SWR means that it is inflation linked.
2)62-68
£54K which will need to be increased with inflation
3) 60 to 62
£33K which will need to be increased with inflation.

So that gives a total of £337K.  You could add in tax perhaps to make it £400K pessimistically if most of your retirement funded is from taxable income

Conclusion
Provided you can increase your assets with inflation you have far more than sufficient now to retire at 60.  And this is assuming your DB pension does not increase in value between now and retirement.

You can change the rough plan for earlier retirement dates or higher expenditure

Some Other points
1) You can't make your plans independently of your spouse's unless your finances are completely separate.
2) You can't get at LISAs until 60  (I think) and SIPPs until say 58  So you need to ensure you have sufficient accessible money in S&S ISAs if you want to retire earlier than 60.
3) Are you sure about £25K as total income? is that what you are spending now?  In my view it is not a good idea to assume expenditure in retirement to be very different to that whilst in work, igniorng expenses that wont apply.
4) As you seem to have plenty of money you need not invest over-adventurously though it is important that you at least match inflation.

Linton's excellent analysis demonstrates that you should already have more than enough retirement savings to meet your £25k budget from pension access age.  Your next question therefore is do you want to have more money in retirement or to retire earlier?  I'll assume that pension access age goes up to 60 by the time you get there (for consistency with Linton).  At the £25k spending level you already have £300k of non-retirement assets that would cover the 12 years from age 48.

If you were to divert most of your pension savings to non-retirement savings instead you could bank close to 2 years worth of expenses for each year worked which means you could retire in 3 years time having baked enough for the other remaining 5 years to 48 plus enough to pay voluntary NICs to get your full SP.

So now you and your spouse just need to decide whether you want to work beyond that point to have more money, or if you have other things you'd rather be doing.  Have fun!

Thrugelmir

Prism said:

bostonerimus said:

The mathematical models used to derive withdrawal rates can use whatever asset allocation you like, however, I've never seen them include cash. They usually use broad US stock and bond indexes in varying percentages.

I would say that is because normally bonds would be expected to do the heavy lifting during equity downturns and they paid a better return at the same time. As it stands cash, including savings accounts offers a better return than bonds and is lower risk. Hence the frequent talk of x number of years in cash as a buffer. Historically a cash buffer was never needed but maybe now cash is better than bonds - at least until QE ends.

Bonds and equities are now highly correlated if interest rates were to rise. Which appears inceasingly likely. With the view that inflation is unlikely to be transitory.  Ruffer appear to have made the right call. 

jamesd

westv said:

I've had a bit of Monday brain fog! 
Does your portfolio for any withdrawal percentage include all your money - bank accounts, PBs, ISAs, SIPPs etc etc. or does it just include money invested in ISAs, SIPPs or similar?
I should know this!  

Yes, all of it. Anything that is part of your total assets on which you plan to draw when retired. For some that will also include equity release, me quite possibly, since I place no value on money that outlasts me.

When using safe withdrawal rates it's very useful to remember that if using 100% success rates, they are set for the worst historic case in the last century plus. In less bad cases or that worst one and dying before the end of the planned number of years, there will be a pot left over. Often a very substantial one, particularly if you're cautious with how many years you're planning for. This is where I think it's often best to let inheritance come from. Plan to draw on everything if you value the extra income, but know that you're unlikely to live long enough to draw it all, because death will probably get you first.

If death doesn't get you, that's where state pension deferral and eventual annuity buying with some of the money come into play, to give you a decent long term income even if you do run out of assets eventually.