Much of the immediate source of worry when it comes to retirement planning is due in large part to our use of calculators. Cold and hard numbers have the effect of either telling you whether you have amassed enough wealth to retire comfortably or on the flip side, how much you will need to get to that goal. Unfortunately, those that fall into the later group look at the wrong answers to these tools and as a result, resign themselves to the fact that they may never get to that point.

While the point of retirement is to invest enough of your income to reach a certain goal so you never run out of money, the amount you are looking to withdraw when you begin distributions is key to some sort of accurate picture of that future. Thing is, which number is the right number to ensure this goal?

This requires some understanding of the tools available. Retirement will bring us to a crossroads of sorts. From the familiar investment programs we used to get this point, for most of us, that program is the 401(k), we face a new world of choices. Many of us will be jettisoned from that plan and given a lump sum to go forth and protect. This is essentially where the confusion become reality. We were more or less on our own investment-wise throughout our work years and now, with the fruits of labor in one place, we suddenly feel as if our own mortality depended on the next move. It doesn’t.

But this is what the insurance industry would like you to believe. Insurers are the peddlers of annuities which is part insurance product, part investment product, and not enough of either to be worth the effort. There may some reasons to consider this sort of product is your nest egg is so large as to be unwieldy.

How much is enough to consider annuities? Because this conversation is essentially about how much you will need to live on once you do retire, talking about having too much will make many of envious of those who did what they should have done. But only in special circumstances will annuity work.

It has been suggested that the cost of healthcare for a couple after retirement could cost as much as $200,000 (although the recently passed Obama HealthCare BIll could alter that number down significantly both in terms of well-care and long-term care coverage). That amount could be annuitized to provide regular payouts. That sort of set-up could pay as much as $12,000 a year over the course of 30-years at a modest 5% growth rate. Before you think this is a good idea if your total portfolio is at that amount, you need to consider that this amount doesn’t calculate inflation, taxes, which type of annuity you are choosing and the penalties of deciding at some point that this plan will not work for you.

Putting the same amount in an IRA will achieve the same payout based on the same return rate. With one basic exception, most stock/bond type portfolios could grow at a much higher rate over the same period giving you an ever-increasing nest-egg from which to withdraw. The 4% distribution, in this case, will actually give you the opportunity to increase your withdrawal rate over time. Studies have shown, that if you kept your investment in a low-cost stock-centric portfolio could increase well beyond a 5% return even if you began your withdrawal in a year where stocks are doing poorly.

This scenario was explored by three professors at Trinity University a little over a decade ago. More importantly, this scenario looked at some of the slowest stock growth years using the S&P 500 index as a guide.

(It should also be noted that in the years in which the study we conducted – 1947 to 1998 – found recoveries from downturns to be much longer in duration while the downturns were just as dramatic as they currently are. Over the last decade, we have seen returns to the near-top of the stock market from the bottom to take less than five-years and may actually accelerate in the years to come.)

The study concluded:
Younger retirees who anticipate longer retirement payout periods should plan on lower withdrawal rates. (Based on the size of the portfolio, estimating how long you will live should be calculated in your ability to never run out of cash.)

Bonds increase the success rate for lower to midlevel withdrawal rates, but most retirees would benefit from a stock allocation of at least 50 percent. (A portfolio with higher stock exposure is actually best.)

Retirees who desire inflation-adjusted withdraws must accept a substantially reduced withdrawal rate from the initial portfolio. (Calculating inflation can be difficult to do and most of us use historic rates to determine what it might be. Problem with those calculations, most inflation numbers leave out key necessities such as food and fuel because of their potential volatility.)

Stock-dominated portfolios using a 3 percent or 4 percent withdrawal rate may create rich heirs at the expense of the retiree’s current consumption. (The Trinity Study actually found that the portfolio will grow substantially, even suggesting that at 4% initial distribution would grow an account with an initial balance of $100k to an ending balance – assuming you die 30-years after beginning and never adjust your withdrawal rate at $700k. That is a seriously inheritable amount.)

For 15-year or less payout periods, a withdrawal rate of 8 to 9 percent from a stock-dominated portfolio appears to be sustainable. (This can be a good indication that by the time a 60-year old hits 75, they will be able to withdraw twice as much as when they began distributions.)

Of course, this flies in the face of current investor sentiment of going conservative while you are still accumulating wealth. It even suggests that the only time you should be adding bonds to your portfolio is after you retire, not before.

The key is still investing enough while you are employed and doing it consistently over a long-period of time. But a 4% withdrawal rate is a very doable goal with the right retirement balance.

To read more on this study, click here.