A well-considered drawdown strategy is one of retirement planning’s key requirements. Here are some of the considerations of well-laid plans
Wealthy individuals have an enviable dilemma. Their higher financial status frees them from the common concern over whether they have enough funds to sustain them in retirement. And while being wealthy is certainly better than the alternative, it comes with unique retirement responsibilities and strategies.
The focus of wealthy retirees is (or at least, should be) how to sensibly decumulate their assets. Decumulation is more commonly known as “drawing down” and refers to how much can be withdrawn from a retirement fund while safely maintaining the desired regular monthly income after taxes.
Drawing down wisely depends on an awareness of three things: tax efficiency, what the retiree knows they’ll need, and what they expect to want.
Drawing down for health
File this one firmly under the “needs” category: Americans are living longer than ever, with those reaching 65 years old expected to live well beyond 85. For less-wealthy Americans, that’s around 20 years that their retirement savings must last. For the more affluent, retirement may come well before 65, meaning more years must be safely covered.
How much can you expect to drawdown for a healthy retirement? The average retiree spends around $4,300 annually out of pocket for healthcare, not including long-term care. Taking a 30-year retirement as an example, that’s $129,000 one can reasonably expect to be drawn down to cover medical expenses.
A sizeable sum, and one which may soar when long-term care is considered. The Association for Long-Term Care Planning states that 70 percent of those 65 and over will require some form of long-term care. Nursing care in a private room, for example, can cost over $100,000 a year.
Living longer and living well aren’t always the same thing. Drawing down to enjoy the freedom of retirement must always combine with a strategic eye on likely having a longer lifespan.
Drawdowns and tax efficiency
Tax-efficient strategies rely on positioning investments and savings into accounts which will allow for the most tax-friendly drawdowns in the future.
For example, funds in a 401K are income-tax-free until they’re drawn upon later. Many wealthy individuals find themselves in a lower tax bracket upon retirement, so waiting until then to begin drawing down makes the most tax sense. However, do remember that 401Ks are subject to Required Minimum Distributions (RMDs) that make drawdowns mandatory after age 70 and a half.
Roth IRAs are another strong option since this is post-tax money which can grow tax-free and is also not taxed upon withdrawal. Roth’s have added advantages since they’re not subject to RMDs (until after the death of the owner) and can be inherited. Thus, an efficient approach to drawdowns with a mind on taxes might look as follows:
A basic drawdown strategy and other financial options
Decumulation should begin on assets that are already tax-affected, then move onto those that are tax-deferred, like 401Ks. This allows tax-free wealth to grow untouched, effectively replacing money in one area as it’s being spent in another and slowing the decumulation process. Eventually, the tax-deferred money can be drawn from last—when it has multiplied as much as possible.
Don’t forget about Social Security to avoid drawing down your assets. It’s a common misconception that the wealthy don’t use it, but it can be wise to take social security sooner rather than later since it provides another income stream to draw on.
A Qualified Lifetime Annuity Contract (QLAC) may be another option of interest. These are purchased through funds from a qualified plan, allowing for a guaranteed income and delaying RMDs until a maximum of age 85. The 2019 IRS limit on how much wealth can be transferred to a QLAC is $130,000.
Maximizing retirement drawdowns by optimizing current expenses
How much is drawn down for personal pursuits or new professional endeavors will differ between individuals. It becomes a relatively simple process to calculate “wants” drawdowns in retirement after necessary expenses like taxes and healthcare are considered.
Our plans and hobbies now are a good indicator of where we’ll be and what we’ll enjoy doing in the future. A prudent question is: are your lifestyle expenses optimized today? A good look at how you spend currently will reveal if you can achieve these things more cost-effectively.
Creating a budget for how you live now nurtures frugality and spotlights expenses which are either excessive or likely to be recurring. Once these are noted, a “future budget” can begin to take shape and allow for a more informed “wants” drawdown projection in retirement.
Draw on the experience of the Lindberg & Ripple team
Every good wealth strategy hinges on respecting the unique needs of the individual and the uncertainties of the future. We’ve built our services on that kind of market expertise and long-term insight, so don’t hesitate to contact us. Our team provides impartial advice on drawing down and other strategies to help you craft the retirement you imagine.
Lindberg & Ripple offers customized wealth management, investment, and insurance solutions to wealthy families and successful businesses. We help our clients craft a comprehensive wealth planning model to achieve their financial goals with minimum fuss and maximum savings. To learn more, connect with us.