Lifetime Income


A plan for using your retirement funds isn’t just nice to have. It’s essential.

When you’ve spent your working life accumulating retirement savings, the transition to using that money as income is a new and not always comfortable experience. Without a plan that lays out which assets to use first and how much you can afford to withdraw each year, it’s easy to get off to a rocky start. You risk either spending too much, or just the reverse: denying yourself things you could comfortably afford because you’re concerned you’ll run out of money.


Plan Ahead

Before you begin tapping your retirement income resources, you can make your life easier by consolidating all or most of your assets with a single financial services firm. Then you’ll receive a single monthly statement that shows you, as well as your financial and other professional advisers, where you stand. The firm you choose will depend on a number of factors, including the types of assets you hold or may want to add to your portfolio, whether you have an established relationship that you want to expand, and the range of services you want.

Consolidating your retirement assets might mean rolling over your 401(k) or other employer-sponsored account to an IRA, or converting it to Roth IRA. It might also mean consolidating a number of different IRAs you’ve opened over the years into a single IRA. Or it might involve transferring your assets in taxable accounts to the same firm that holds your IRA, or the reverse.


Create a Withdrawal Strategy

To ensure that your money lasts for your lifetime, provides a steady stream of income, and lets you keep pace with inflation, you’ll need to have a strategy for taking money out of your accounts. A standard approach is to take no more than 4% of your total portfolio value in the first year you’re retired. In the next year, you take that same amount plus an amount determined by the current inflation rate. For example, if you planned to withdraw a total of $50,000 in 2010, and inflation averaged 2% during the year, you’d withdraw an additional $1,000, or $51,000, in 2011.

If it turns out that you withdraw less, perhaps because you earn enough from continuing to work in 2010 to offset part of your income needs, you’ll have the luxury of leaving more of your assets to continue to accumulate earnings. Conversely, you may need to withdraw somewhat more than the standard amount in some years in order to take advantage of a new opportunity or to cover unanticipated expenses. You just don’t want to do that too often and risk depleting your resources.

One strategy to consider is keeping enough money to cover your income needs for three or four years in readily accessible assets, such as insured CDs and US Treasury bills and short-term notes. This money could cover your income needs if the market experienced a major downturn and you didn’t want to sell assets that had lost value.


Manage Your Portfolio

The second element in a withdrawal strategy is the order in which you take out your assets, assuming some are in taxable accounts, some in tax-deferred accounts, and some in tax-free accounts such as Roth IRAs. What you want to accomplish is continued growth in your portfolio value while keeping your income tax bill to a minimum.

In most cases, the best approach is to begin with your taxable assets. The easiest part is withdrawing your interest, dividends, and distributions to use as income, rather than reinvesting them as you’ve probably done over the years. And it’s tax neutral, since taxes are due on these earnings whether you reinvest them or take the cash.

More difficult is deciding which assets to liquidate if you need more than dividend and interest income, which is often the case. One strategy is to sell off investments you own but that you wouldn’t buy now, either because they have provided disappointing returns over time or have recently been downgraded by financial analysts.

Another approach is to begin weeding out holdings in areas where you may be more heavily invested than you’d like. Since you may owe capital gains taxes on the sale of these assets, you’ll want to think about offsetting any gains with capital losses before the end of the year. You may also want to consider whether taking gains in 2010 is smarter from a tax perspective than waiting until 2011 or 2012.

You can also supplement your income from taxable sources by withdrawing from your tax-deferred accounts. You can do this any time after you turn 59½. That additional income may be adequate to meet your needs. If not, you can follow the same approach in liquidating tax-deferred assets that you did in selling off taxable ones, though you can’t offset gains with losses in these accounts. But remember, in most cases you’ll have to begin taking required minimum distributions from your tax-deferred IRAs and employer plans when you reach 70½, so you should factor these amounts into your retirement income for those years.

Finally, since Roth IRAs do not require distributions, and any distributions you do take are tax free if you’re at least 59½ and your account has been open at least five years, you can use this money at any time that makes sense to you. Alternatively, you can allow it to continue to accumulate earnings to provide income in the future.

By carefully planning an income strategy as retirement begins, you can help ensure that the financial security you’ve worked to build ends up providing the kind of retirement you’ve envisioned.