One of the biggest fears of both retirement savers and retirees is outliving their assets.
Fortunately, there's a lot you can do about that problem to ensure you manage your savings wisely and never run out of money. And no, it doesn't involve going back to work.
Just a few strategies can be the difference between always worrying about outliving your savings and resting assured you'll have money next year as well as the next decade.
Here are three moves you can make to ensure you'll never go broke in retirement.
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1. Use a safe withdrawal rate (with guardrails)
A safe withdrawal rate is the amount you can withdraw from your retirement savings each year (adjusting for inflation) with a reasonable certainty you won't extinguish the account. Many people use the 4% rule as their safe withdrawal rate.
Adding guardrails can provide greater confidence in your withdrawal strategy. Guardrails make sure you're never withdrawing too much (or too little) from your retirement savings.
The way it works is if your withdrawal would account for a percentage of the current portfolio value well above or well below your initial withdrawal rate, you'll adjust the withdrawal up or down by a certain percentage. A common approach is to use a 20% guardrail and a 10% adjustment if you fall outside the guardrails.
That's a lot of numbers, so here's an example of how it might work in real life.
Let's say you start retirement with $1 million and decide on a 5% withdrawal rate. In the first year, you withdraw $50,000 (5% of $1 million), but a strong market actually pushes the value of your portfolio 30% higher to $1.3 million. With 3% inflation, you should be due to withdraw $51,500 in year two. However, that represents just 3.96% of your new portfolio value. And that 3.96% is also 20% below your initial withdrawal rate of 5%. Based on the 20% guardrail and 10% adjustment rule you set, you increase your year two withdrawal 10% to $56,650.
It works the other way, too. If your portfolio instead fell 15% to $850,000, the scheduled $51,500 withdrawal would now be too high at 6.06% of your portfolio value (more than 20% above the initial 5% withdrawal rate). In this case, you'd adjust your withdrawal down 10% to $46,350.
Using guardrails can allow you to start with a higher safe withdrawal rate with adjustments to protect your portfolio over time. If you can withstand some lumpiness in your retirement income, you might consider taking the guardrails approach.
2. Live off your dividend and interest income
One way to protect against exhausting your retirement savings is to only spend the dividends and interest from your portfolio.
If you only spend the dividend income from your stocks and the interest payments from your bonds, you'll still have the principal investment. In the case of dividend stocks, you'll continue holding the same number of shares of the stock. In the case of interest, you'll get back the principal investment upon maturity of the bond.
This strategy isn't without risk, though. Companies can cut, suspend, or eliminate dividends. That could leave you with permanently less to spend while inflation eats away at the value of your cash payments. A dividend stock usually drops in value if it cuts its dividend too, leaving you with less to invest if you decide to cash out and buy a stock that pays a higher or more sustainable yield.
Likewise, bonds are by no means guaranteed to make their interest payments or pay you back your principal in full. And if you want to rebalance your portfolio before your bonds reach maturity, you become susceptible to interest rate risk. So if interest rates climb after you buy your bonds, you won't recover your entire principal.
That said, selecting great dividend stocks with track records for annual raises and sticking with government bonds can help protect you from those risks.
3. Buy a guaranteed lifetime annuity
Another option for retirees is to buy a guaranteed lifetime annuity.
An annuity is a contract with an insurance company that pays you a fixed amount every month in exchange for a lump sum or a series of payments. With a lifetime guarantee, you will receive that income until you pass away (or both you and your spouse pass in the case of a joint life annuity).
Many annuities, however, don't adjust payments for inflation. So, while you might initially receive a significant payment, inflation could eat away at the value of that payment over the course of your retirement. You may be able to receive a lower payment today in exchange for an annual cost-of-living adjustment, but not every insurance company offers them and they might not always be worth it.
There are a few other downsides as well. For one, annuities can have large upfront costs, eating into the amount you can actually invest. Second, they can be difficult, expensive, and sometimes impossible to get out of if you change your mind. And lastly, you'll likely end the contract with $0 to leave to your heirs after your death.
You might use a combination
There are a lot of ways to plan your retirement income, and no two retirees are the same.
You might put a portion of your savings into an annuity. Combined with Social Security, that'll give you a baseline level of income that you can count on every year.
On top of that, you might use a lumpier source of income like a guardrails or dividend-and-interest-only strategy. The combination will give you some predictability while still taking advantage of the long-term potential of the stock and bond markets.
Regardless of what you decide, having a solid plan in place is essential to having the confidence you won't run out of money in retirement.
