Let's
assume that Rachel retired on her 65 birthday on January
1,1998. At that point, she had $500,000 in accumulated savings in
addition to her Social Security benefit. Since she was single with no
children, she had no desire to leave money to heirs. She wanted to
maximize her income in retirement, particularly in her younger retirement years
(when she wanted to travel more). On the other hand, she did not
want to outlive her savings. She decided to invest the assets not budgeted
for spending each year 25% in large cap equities, 25% in mid-cap equities, 25%
in mid-term bonds, and 25% in short-term bonds (which she rebalanced at the end
of each year). Unfortunately, Rachel died in a car accident on January 1,
2014. She had just turned 81.
The
graph shows withdrawals
under the three different strategies discussed in the previous post compared
with withdrawals under the actuarial approach advocated in this website.
All amounts are shown in 1998 dollars. In using the actuarial approach,
Rachel looked at annuity purchase rates in 1998 and decided to determine her
first year's withdrawal assuming 7% investment return, 4% inflation and death
at age 95. In 2004, when interest rates had decreased somewhat, she
changed the assumptions to 6% investment return, 4% inflation and in 2009 she
changed to the now recommended assumptions of 5% investment return, 3% inflation.
She also used the recommended smoothing algorithm.
None of
the four strategies would have been successful in meeting Rachel's
objective to die with only a small amount of assets remaining. She
expected to live well past age 81 and her investments did much better than she
assumed (on average). Following the actuarial strategy, she would have
died with $626,635 remaining. But this approach was better than the other
three approaches in meeting Rachel's objective, as she would have $786,436 remaining
under the IRS Required Minimum Distribution approach, $804,358 under the
Constant 4% approach and $827,504 under the 4% Rule.
And
while the 4% Rule produces a ruler-flat inflation adjusted withdrawal pattern,
it failed to maximize Rachel's desire to maximize spending. The other two
approaches also failed to maximize spending and their withdrawal patterns
were much less stable from year to year than under the actuarial
approach. Based on experience from 1998 to 2014, the clear winner of the
four approaches in terms of meeting Rachel's objectives is the actuarial
approach.
