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The year was 1994, and there was a CFP from California that would create one of the most profound “rules of thumb” for retirement income that has ever been created. William Bengen wrote an article which appeared in the Journal of Financial Planning, and it released the results of this very profound study that he had just undertaken.
This study is what started the “Gold Standard” safe withdrawal rate of 4%. William basically said that even though over time the market had averaged around 10%, in the distribution years, it doesn’t mean that a client can “safely” withdraw 10% from their portfolios. So, what William did is he back tested hypothetical retirement “start dates,” assuming a 50% stock and 50% bond portfolio all the way back to the 1920s, using the actual stock and bond market performance. After the analysis was said and done, he said that consumers were “safe” by withdrawing 4% of their initial portfolio value per year adjusted for inflation or deflation. By “safe,” what he meant was that the 4% distributions were very unlikely to spend down the client’s portfolio/retirement money before the end of the 30-year retirement.
As a matter of fact, in his study, he had a 100% success rate using the 4% rule for retirement income. As a result of this study, securities reps for almost two decades have been living and dying by this rule. If a client has a million dollars at retirement, then the client should not take more than $40,000 during the first retirement year, for example.
A later study was done in 2013 that was coauthored by Morningstar Inc. It established, in this new world of volatile markets and low interest rates, that the new “safe withdrawal rate” is actually 2.8%. The study indicated that with today’s low interest rates, market volatility, and SEQUENCE OF RETURNS RISK that there is almost a 52% chance of failure using the 4% rule. Would you get on an airplane if there was a 48% chance of having the number of landings equal the number of takeoffs?
So, how do you handle this risk? Before looking at what a GLWB can do for this client on a “guaranteed* basis,” I want to point something out. When you look at this risk that we just discussed, which is the client losing 20% of their portfolio value or taking a major pay cut in retirement, or having to delay retirement, this risk is just as catastrophic as say a car crash, a medical emergency, a house fire, etc. Or, maybe even death itself. What is my point? My point is, when risks in our lives are catastrophic, should they occur, we take actions to hedge those risks. What do we use? We use something called insurance.
- Car crash = Auto insurance
- House fire = Homeowners’ insurance
- Death = Life insurance
Learn more about fixed indexed annuities for guaranteed* income. Download our complete whitepaper: “The Stars are Aligned for Fixed Indexed Annuities and Guaranteed Lifetime Withdrawal Benefits.”
FOR FINANCIAL PROFESSIONAL USE ONLY. NOT FOR USE WITH CONSUMERS.
*Guarantees provided by annuities are subject to the financial strength of the issuing insurance company; not guaranteed by any bank of the FDIC. Guaranteed lifetime income available through annuitization of the purchase of an optional lifetime income rider, a benefit for which an annual premium is charged.
Annuities are designed to meet long-term needs for retirement income. They provide guarantees against the loss of principal and credited interest, and the reassurance of a death benefit for beneficiaries. Please note that in order to provide a recommendation to a client about the transfer of funds from an investment product to a fixed insurance or annuity, you must hold the proper securities registration and be currently affiliated with a broker/dealer. If you are unsure whether or not the information you are providing to a client represents general guidance or a specific recommendation to liquidate a security, please contact the individual state securities department in the states in which you conduct business.
This information is designed to provide general information on the subjects covered. Pursuant to IRS Circular 230, it is not, however, intended to provide specific legal or tax advice and cannot be used to avoid tax penalties or to promote, market, or recommend any tax plan or arrangement. Encourage your clients to consult their tax advisor or attorney.
