You've carefully managed your savings over the years to build the assets you'll need in retirement. As you prepare to embark on the next stage of life, however, you'll need to be just as savvy about how you access your funds.
Understanding basic retirement withdrawal strategies allows you to pursue the lifestyle you've dreamed about and have the financial freedom to give generously. Having a clear plan also helps ensure your assets will last.
How much income do you need in retirement?
A sound withdrawal strategy helps achieve two primary goals. It provides enough income to cover your expenses—including any charitable donations you plan to make—and helps decrease the chances of outliving your assets. Meeting those objectives requires you to have sufficient assets heading into retirement.
Estimate your Social Security benefit
While Social Security by itself likely won't provide enough money to live on as you get older, your monthly benefit provides a key source of post-retirement income. The amount you receive is based on the wages you earn during your working years. However, it's also affected by when you apply, which means you should have a clear strategy in place well before leaving the workforce.
Conversely, you can incrementally increase your monthly benefit by postponing Social Security, up until age 70. By waiting until then, you'd receive 124% of your full benefit amount. For someone who's in good health and can afford to hold off, that's a powerful incentive to delay your application. You can get an estimate of your projected benefit amount by visiting
Determine how much supplemental income you'll need
How do you know you're financially ready to leave a steady paycheck behind? Start by creating a preliminary post-retirement budget that accounts for any lifestyle changes you plan to make. Essential expenses—housing, food, transportation, insurance, health care costs and taxes, for instance—usually make up the majority of your budget. But be sure to also include discretionary expenses such as travel, entertainment, gifts and hobbies for a more accurate picture of your spending.
Then add together your
Decide if you should follow the 4% rule
A popular guideline is planning to
A financial advisor can help you determine an annual amount that makes sense for you given your age, health and financial status. Once you've identified a withdrawal rate, you can more easily determine whether your current portfolio is sufficient to meet your needs.
You also can use the
Maximizing the tax efficiency of your retirement withdrawal strategy
While often overlooked, taxes often represent one of the biggest expense categories in retirement. To stretch your retirement money, then, using
What are the three tax buckets?
One of the most effective ways to minimize the impact of taxes in retirement is using the bucket system. By separating your income sources by how they'll be taxed when you take distributions, you can strategically pick which accounts you'll draw from to reduce your liability.
In one bucket are your "tax now" assets. This means that you owe tax at the time you earn interest income. These include:
- Checking accounts1
- Certificates of deposit (CDs)1
- Mutual funds1
- U.S. Treasuries1,2
Your "tax later" holdings are the second bucket. These tax-deferred accounts require you to pay taxes when you withdraw the money in retirement. They include:
- Employer-sponsored retirement plans like 401(k)s & 403(b)s3,4,5
- Pension plan assets3,4,5
- Traditional IRAs3,4,5
- Variable & fixed annuities3,6
- U.S. savings bonds7
A third bucket holds your "tax never" assets, which you can access in retirement without incurring any additional tax liability. These include:
- Roth IRAs 6,8
- Roth employer-sponsored retirement plans, like Roth 401(k)s and Roth 403(b)s6,8
- Municipal bonds9
- Life insurance10
- Health savings accounts & flexible spending accounts
Is Social Security taxed?
It depends. While some recipients don't owe any tax on their benefits, others have to pay tax on up to 85% of the money they receive through the program. The portion of your benefit that's taxable is determined by your income from other sources and your filing status. It's important to understand the
How to use tax buckets strategically
Ideally, you want to plan around future tax consequences while you're still saving for your retirement. While you can generally contribute pre-tax dollars to traditional 401(k)s and IRAs, withdrawals are subject to income tax. Roth accounts, meanwhile, require post-tax contributions but allow you to avoid taxes on eligible distributions. A financial advisor can recommend an optimal strategy to fill your tax buckets based on your unique financial situation.
Once you reach retirement, the goal is to draw from these different buckets in a way that keeps you in the lowest tax bracket possible. That may involve adjusting your withdrawal strategy annually as circumstances change. If your taxable income is high in a given year—for example, if you temporarily take on a part-time job—you may wish to pull more from your "tax never" assets to achieve a more favorable tax rate.
Keep in mind that you'll eventually have to take
Bringing it all together for a retirement withdrawal strategy
Step one was figuring out how much money you'll need and how much you should limit yourself to each year. Next was understanding how various accounts are taxed so you can access funds in a tax-efficient way.
The third component of your strategy is continuing the smart approaches to budgeting, investing and preparing you've always taken.
- Monthly budgets can help you manage your retirement spending. You'll obviously want to account for major expense categories like housing, food and transportation. But don't forget smaller or infrequent costs that may collectively take a sizeable slice of your income—entertainment and travel, memberships, gifts and charitable donations.
- Asset diversification still plays a role as you move into retirement.
Maintain a spread of accountsthat includes both near-term sources like savings accounts and CDs, which you can tap to pay for essentials, and growth assets, such as stock funds, that you can build for discretionary spending.
- Be persistent with your just-in-case plans. Aside from the accounts you're planning to use as income, keep up an
emergency fundthat can help you cover unexpected expenses. Life insurancemay already be part of your financial plan, but if not, retirement age is still a good time to look at coverage that can benefit your loved ones. And if you haven't yet, you may want to consider preparing for potential extended care needswith insurance that helps pay expenses that Medicare doesn't.
Retirement is your opportunity to pursue the goals you've always been passionate about and give back in a way that's meaningful. As you prepare for retirement, you may want to meet with your local