Knowing Your Account Value Isn’t Enough

Seth J. Masters

A retirement account lump sum may look like a lot, but how much should one withdraw each year to have a good chance of sustaining income through retirement? Surprisingly few people know.

A worker diligently saves in a defined contribution (DC) plan for years and is finally ready to retire. What happens next? For starters, he gets hold of his plan assets to use as he sees fit. For many, this is the biggest single lump sum they’ll see in their lives; they may feel rich. But most people have no idea how much they can withdraw each year to make their savings last through retirement.

In our seventh annual survey of full-time employees eligible for their companies’ DC plans, we posed a question about this: Let’s say you’re retiring at age 65 with $500,000 in your 401(k) account. What percentage of that could you spend each year without running out of money for the rest of your life? We offered five possible answers:

a. 1%-3%    b. 4%-6%     c. 7%-9%     d. 10%-12%     e.  Don’t know

The rule of thumb in the retirement industry is that, assuming you remain well invested, you can withdraw about 4%–5% of your initial savings each year and have a good chance that the money will last for the rest of your life. So only (a) and (b) above would be prudent for what may be the long haul of retirement.

But only 27% of our survey participants got that right—a surprisingly low number. More than one-fourth said they didn’t know, and about half guessed too high (Display).

How Much Can I Withdraw Each Year from My Retirement Account?

Why is this important? As participants build up retirement account savings, they tend to see one big number—the account value—and that can lull them into a false assurance that they are saving enough.

More than one-third of our respondents said you could withdraw 10% or more. According to our calculations,a 65-year-old man beginning with $250,000 (far more than the average DC account balance for today’s retirees) who withdrew $25,000 per year would likely exhaust his savings by age 80,  even with reasonably optimistic investment returns. But more than half of 65-year-old men today are likely to live past 85, and many of them are likely to live past 90. Women tend to live even longer.

A more prudent 4.5% rate may last 25 years, but it would give you approximately $11,250 during the first year of your retirement (approximately $937 a month).* That’s not likely to be enough, even with Social Security. The problem for our hypothetical 65-year-old is that he may feel wealthy, but a prudent withdrawal rate is unlikely to meet his retirement income needs—and by then, it’s too late to save much more.

That’s why workers need to understand their likely annual income before retirement, rather than just their accumulated savings. Our survey respondents agreed: We asked them if they’d value a forecast to help understand their expected annual income from their retirement plan, based on current account balance, asset allocation and deferral rate. A resounding 93% said yes.

This outcome supports the US Department of Labor’s current exploration into ways to help participants understand how their current retirement savings path translates into annual retirement income. Participants may have access to online calculators and projection tools, but they clearly want a personal projection done for them—easily and conveniently. That fits right in with our findings that many participants need as much help as possible to get them to a confident, comfortable retirement.

We discovered many other interesting insights from this year’s survey. We expect to publish our full findings shortly.

*Assumes annual amount withdrawn is increased annually to reflect the pace of inflation

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.

Seth J. Masters is Chief Investment Officer for Defined Contribution Investments and Asset Allocation at AllianceBernstein and Chief Investment Officer of Bernstein Global Wealth Management, a unit of AllianceBernstein.

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