Trying to understand drawdown SWR

dunstonh

hildasmuriel said:

dunstonh said:

  if you want the least risk, you would buy an RPI linked annuity.

Then you have a further choice to make:

Run the risk of dying 6 months into your retirement and all your hard earned pension is gone for ever

OR

Accept a much reduced income so that it leave an amount for a surviving partner   


For the non-risk taker who is also a worrier, it's  a real dilemma.

a) you will be dead so you won't care
b) if you have a spouse, you do it on 100% spouse
c) if you want to have a legacy to pass on then select increased death benefits.

So, no dilemma

hildasmuriel

dunstonh said:

a) you will be dead so you won't care
b) if you have a spouse, you do it on 100% spouse
c) if you want to have a legacy to pass on then select increased death benefits.

So, no dilemma

Okay thanks - will have to look into that.

I was under the impression that the annual amount payable was drastically reduced if you chose to have survivor benefits - especially in a case where the partner is 10 years younger - does one gamble on living a long time and not having a joint benefit or does one accept a much lower amount just in case of early death? Worry - dilemma - panic 

tacpot12

As with any financial product, don't buy it until you under it fully, and ideally understand how it makes money for its provider. (If this isn't clear, then you haven't understood it fully). 

dunstonh

hildasmuriel said:

dunstonh said:

a) you will be dead so you won't care
b) if you have a spouse, you do it on 100% spouse
c) if you want to have a legacy to pass on then select increased death benefits.

So, no dilemma

Okay thanks - will have to look into that.

I was under the impression that the annual amount payable was drastically reduced if you chose to have survivor benefits - especially in a case where the partner is 10 years younger - does one gamble on living a long time and not having a joint benefit or does one accept a much lower amount just in case of early death? Worry - dilemma - panic 

It isn't a dilemma.  If you wont accept investment risk, shortfall risk or inflation risk, then you are left with that as your best and only suitable option.       Everything else means you need to accept risks.  Even if the alternatives may be potentially better in other areas.    

It becomes a dilemma if you actually will accept some of the other risks but don't really understand the risks.  

Albermarle

OP - Just to go back to the original question and maybe clarify a couple of points .

SWR - drawdown. The % figures mentioned ( say 3.5% + inflation each year for example) are based on a historical statistics model, that will show that there is only a small % chance of the money running out in say 35 years time.
However there is actually a reasonably good chance that you will end up with a bigger pot than you started with. It does depend on market movements and your investment portfolio, although over a very long period of time most things tend to even out. If you wanted to push your luck a bit you could even take 5% and most probably you would still be OK, but just a bit more risk that you might run out. Plus a bit less likely that you  might die with the pot as big as you started with.

Saving account paying 4% - Firstly it is difficult to get a fixed rate account longer than 7 years. When that time was up the fixed rates on offer could be more or less.
If we say you could fix at 4% for 30 years and you had £300,000 and you take the interest as income - £12K pa . After 20 years you are still getting £12Kpa, but due to inflation it does not buy you anywhere near the same amount of goods and services. So your income, although guaranteed, is going down every year in real terms.

I think it is reasonably clear that the second option is more risky overall, mainly due to inflation which is the Achilles heel for cash savings in general. 

OldScientist

hildasmuriel said:

dunstonh said:

  if you want the least risk, you would buy an RPI linked annuity.

Then you have a further choice to make:

Run the risk of dying 6 months into your retirement and all your hard earned pension is gone for ever

OR

Accept a much reduced income so that it leave an amount for a surviving partner   


For the non-risk taker who is also a worrier, it's  a real dilemma.

As you have said, purchasing a lifetime inflation linked annuity with a 100% beneficiary protects against the effects of early death, but comes at a cost of a reduced income. However, if you both are able to purchase an annuity of about the same amount, then choosing the 50% beneficiary option means that the survivor will have 75% of the combined annuity income and the starting amount will be higher.

It is possible to combine various approaches, e.g.,

1) Income from State pension, DB pensions (if available), and, if necessary, inflation linked annuity to meet essential expenditure (definitions of 'essential' will differ from person to person, but housing, bills, and food are a bare minimum).

2) Variable withdrawals (e.g., 5% of the current value of the pot) from a portfolio of stocks, bonds, and cash to provide income for discretionary expenditure. That this might vary from month to month or year to year with investment performance is less likely to be critical (e.g., in bad years there will be less money for holidays, home improvements, etc.). Mathematically, the portfolio will never completely run out, but the amount remaining (and hence income) may become small if investment returns over the next decades are poor.

This is the essentially the approach we are currently using - until we are old enough to get our state pensions, our basic expenditure is covered by my DB pension, while 'extras' are funded by variable withdrawals from our portfolio. In the event of my death prior to state pension age my OH will only have half the DB income, so we have used term life insurance to cover at least part of this shortfall (which is yet another thing to think about).

Pat38493

The original 4% number was based on something called the Trinity study which found that in all the historical situations, if you started out drawing 4% of your initial pot, and then increased it by the rate of inflation each year, you would never run out of money within 30 years.

Note the 30 years - if you are retiring early, you might need to plan for longer than 30 years.  Also as others have pointed out, the trinity study was based on US retirees and the rate of inflation in the US was, as I understand it, lower than the UK.

Also it's per definition based on the worst situation in the history that was included in the study, so again as pointed out above, if you followed this religiously you would have a high chance of ending up with more money than you started.

It's a kind of rough guide but in the end you will have to make your own plan and monitor it over the years.

af1963

Saving account paying 4% - Firstly it is difficult to get a fixed rate account longer than 7 years. When that time was up the fixed rates on offer could be more or less.

If we say you could fix at 4% for 30 years and you had £300,000 and you take the interest as income - £12K pa . After 20 years you are still getting £12Kpa, but due to inflation it does not buy you anywhere near the same amount of goods and 

And the amount you have invested is still nominally £300K, but that's also worth a lot less due to inflation - it hasn't increased because you've been living off the interest.

dunstonh

From memory, if you retired in the late 60s and took 3.5% p.a. you would have run out of money within your current life expectancy (not as it was on the 60s).  There have only been a handful of times (assuming proper asset mix).   But if you want something called a "safe withdrawal rate" it wouldn't mean much if it wasn't that safe.

af1963

 does one gamble on living a long time and not having a joint benefit or does one accept a much lower amount just in case of early death? Worry - dilemma - panic 

Not all that long ago though, you wouldn't have had the dilemma, because you wouldn't have had the choice -  you'd have been able to take up to a fixed maximum lump sum if you chose to, and then you'd have had to buy an annuity with the remainder. People today in defined benefit schemes have similar limited ( although often also generous) options.

This is a choice that lots of people struggle with - it's one of the biggest financial decisions they will take, probably bigger than buying a house. But at least having the choice means you can look at what may suit your own personal circumstances.