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Decumulation Done Right: Mitigating the Four Big Risks of Retirement

Decumulation Done Right: Mitigating the Four Big Risks of Retirement

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Retirement is the reward for years of hard work and careful planning. But as you transition from building your nest egg to drawing it down, the financial landscape changes in ways that can catch even the most prepared retirees off guard. Decumulation—using your assets to fund your retirement—comes with unique challenges.

At Suttle Crossland, we know how critical it is to manage these challenges effectively. Let’s take a closer look at the four key risks of retirement decumulation and how you can protect your financial future.

1. Sequence of Returns Risk: Timing Matters

When market downturns hit early in retirement, the combination of withdrawals and losses can quickly deplete your savings. This is called sequence of returns risk, and it’s one of the most significant challenges retirees face.

Example:
Let’s look at Alex and Jordan, two retirees who start with identical portfolios of $1 million. Both plan to withdraw $45,000 annually for living expenses, and both expect an average annual return of 6% over 30 years.1

Here’s the difference:

  • Alex experiences three consecutive years of negative market returns (-20%) right after retirement.
  • Jordan, on the other hand, enjoys positive returns early on and doesn’t face the same -20% downturns until the final three years of retirement.

The Outcome:

By year 25, Alex’s portfolio is entirely depleted—leaving them without resources for the last five years of retirement. Meanwhile, Jordan’s portfolio lasts the full 30 years and still has funds left over, despite experiencing the same average returns.

Why Does This Happen?

When Alex withdraws $45,000 during those early down years, the combination of withdrawals and market losses significantly reduces the portfolio’s value. With less money left to grow during the subsequent recovery years, Alex’s savings can’t bounce back.

Jordan, however, withdraws during years of strong returns early in retirement, giving their portfolio a chance to grow before experiencing losses. This timing difference makes a dramatic impact, even though the average return over 30 years is the same.

How to Manage It:

  • Diversify Income Sources: Use strategies like annuities, rental income, or cash reserves to reduce reliance on portfolio withdrawals.
  • Implement a Bucket Strategy: Allocate short-term needs to stable assets and long-term needs to growth investments.
  • Build a Cash Reserve: Liquid funds allow you to avoid selling investments at a loss during downturns.
  • Adjust Withdrawals Flexibly: Withdraw less during bad market years and more when the market performs well.

By carefully managing withdrawals and timing, retirees can mitigate the impact of poor market performance and preserve their savings for the long term.

2. Longevity Risk: The Challenge of Living Longer

Advances in healthcare mean people are living longer than ever before. While this is a blessing, it also introduces the possibility of outliving your savings—a challenge known as longevity risk.

Example:
Jane retires at 65 with savings intended to last 20 years. Thanks to her excellent health and advancements in medicine, she lives to 95. By her mid-80s, her savings are nearly depleted, leaving her to rely solely on Social Security, which doesn’t cover all her expenses.

How to Manage It:

  • Lifetime Annuities: Products like deferred-income annuities (DIAs) or qualified longevity annuity contracts (QLACs) can provide guaranteed income for life.
  • Diversified Investments: Maintaining a balanced portfolio with growth-oriented investments can help extend the life of your savings.
  • Regular Financial Reviews: Meet with your financial advisor regularly to adjust your plan based on evolving needs and life expectancy.

Longevity risk requires forward-thinking strategies to ensure that you can sustain your standard of living no matter how long you live.

3. Tax Risk: Navigating the Hidden Drain

Taxes are often overlooked in retirement planning, yet they can significantly affect how far your savings stretch. Retirees face unique challenges, from managing required minimum distributions (RMDs) to staying ahead of changes in tax laws. What’s more, the very structure of your retirement accounts—whether they’re traditional IRAs, Roth IRAs, or taxable brokerage accounts—can dictate your tax liability year over year.

Example:
John planned his retirement withdrawals without considering the tax implications of his RMDs. When they began at age 73, the added taxable income pushed him into a higher tax bracket, increasing his Medicare premiums and shrinking his net income.

How to Manage It:

  • Roth Conversions: Converting part of a traditional IRA to a Roth IRA before RMDs begin can lock in today’s tax rates and reduce future taxable income.
  • Tax-Efficient Withdrawals: Work with an advisor to sequence withdrawals strategically—for example, tapping taxable accounts first while letting tax-deferred accounts grow.
  • Tax Diversification: Build a portfolio that includes tax-free, tax-deferred, and taxable accounts, giving you more flexibility in retirement.
  • Charitable Contributions: Use strategies like qualified charitable distributions (QCDs) to reduce your taxable income while supporting causes you care about.

The bottom line? Proactive tax planning during retirement isn’t just about paying less—it’s about preserving more of your hard-earned money for the things that matter most.

4. Spiking Expense Risk: Navigating the Unpredictable

Even the best-laid retirement plans can be disrupted by unexpected expenses. Whether it’s a health crisis, family emergency, or natural disaster, these sudden costs—often referred to as spiking expense risk—can drain your savings faster than anticipated.

Example:
Helen and Mark had a comfortable retirement plan until Mark needed long-term care. Their expenses doubled overnight, depleting their emergency fund and forcing them to draw more heavily from their portfolio.

How to Manage It:

  • Long-Term Care Insurance: This can help cover nursing home stays, in-home care, or assisted living expenses. Policies with inflation riders ensure coverage keeps pace with rising costs.
  • Emergency Funds: Set aside at least 6–12 months of living expenses in a liquid, easily accessible account.
  • Insurance Riders: Add riders to existing life or disability insurance policies to cover specific risks like critical illness or hospital stays.
  • Flexible Spending Plans: Be ready to adjust your withdrawals and spending during high-cost periods to avoid permanently derailing your plan.

Proactive Planning Is Key
While you can’t predict every possible expense, working with an advisor to anticipate potential scenarios can make all the difference. Think of it as a safety net for your retirement.

Planning for a Secure Retirement

Decumulation is about more than just spending what you’ve saved—it’s about managing risks, adapting to the unexpected, and ensuring your money works as hard for you in retirement as you did to earn it. At Suttle Crossland, we specialize in creating customized strategies that address these risks and keep you on track to achieve your goals.

Let’s work together to turn your retirement dreams into reality. Schedule a consultation today, and let’s make the most of what you’ve worked so hard to build.

1 Scenario 1: Alex (Negative Returns in Early Years)

  • Starting portfolio: $1,000,000
  • Annual withdrawal: $45,000

First 3 years of retirement:

  • Year 1:
    • Return = -20%
    • Portfolio after return: $1,000,000 × (1 – 0.20) = $800,000
    • Portfolio after withdrawal: $800,000 – $45,000 = $755,000
  • Year 2:
    • Return = -20%
    • Portfolio after return: $755,000 × (1 – 0.20) = $604,000
    • Portfolio after withdrawal: $604,000 – $45,000 = $559,000
  • Year 3:
    • Return = -20%
    • Portfolio after return: $559,000 × (1 – 0.20) = $447,200
    • Portfolio after withdrawal: $447,200 – $45,000 = $402,200

After just three years, Alex’s portfolio is reduced to $402,200, less than half of the starting amount.

Years 4–30: Positive Returns (6%): For the remaining years, Alex withdraws $45,000 annually while the portfolio grows at 6%. By year 25, Alex’s portfolio is fully depleted.

Scenario 2: Jordan (Negative Returns in Later Years)

  • Starting portfolio: $1,000,000
  • Annual withdrawal: $45,000

First 27 years of retirement: Positive Returns (6%):

  • Year 1:
    • Return = +6%
    • Portfolio after return: $1,000,000 × (1 + 0.06) = $1,060,000
    • Portfolio after withdrawal: $1,060,000 – $45,000 = $1,015,000
  • Year 2:
    • Return = +6%
    • Portfolio after return: $1,015,000 × (1 + 0.06) = $1,075,900
    • Portfolio after withdrawal: $1,075,900 – $45,000 = $1,030,900
  • Similar Growth for years 3-27

Jordan’s portfolio grows steadily over the first 27 years, allowing withdrawals without significantly impacting the principal.

Last 3 years of retirement: Negative Returns (-20%):

  • Year 28:
    • Return = -20%
    • Portfolio after return: $1,050,000 × (1 – 0.20) = $840,000
    • Portfolio after withdrawal: $840,000 – $45,000 = $795,000
  • Year 29:
    • Return = -20%
    • Portfolio after return: $795,000 × (1 – 0.20) = $636,000
    • Portfolio after withdrawal: $636,000 – $45,000 = $591,000
  • Year 30:
    • Return = -20%
    • Portfolio after return: $591,000 × (1 – 0.20) = $472,800
    • Portfolio after withdrawal: $472,800 – $45,000 = $427,800

Even after facing three years of negative returns, Jordan finishes with $427,800 in their portfolio.

Retirement is the reward for years of hard work and careful planning. But as you transition from building your nest egg to drawing it down, the financial landscape changes in ways that can catch even the most prepared retirees off guard. Decumulation—using your assets to fund your retirement—comes with unique challenges.

At Suttle Crossland, we know how critical it is to manage these challenges effectively. Let’s take a closer look at the four key risks of retirement decumulation and how you can protect your financial future.

1. Sequence of Returns Risk: Timing Matters

When market downturns hit early in retirement, the combination of withdrawals and losses can quickly deplete your savings. This is called sequence of returns risk, and it’s one of the most significant challenges retirees face.

Example:
Let’s look at Alex and Jordan, two retirees who start with identical portfolios of $1 million. Both plan to withdraw $45,000 annually for living expenses, and both expect an average annual return of 6% over 30 years.1

Here’s the difference:

  • Alex experiences three consecutive years of negative market returns (-20%) right after retirement.
  • Jordan, on the other hand, enjoys positive returns early on and doesn’t face the same -20% downturns until the final three years of retirement.

The Outcome:

By year 25, Alex’s portfolio is entirely depleted—leaving them without resources for the last five years of retirement. Meanwhile, Jordan’s portfolio lasts the full 30 years and still has funds left over, despite experiencing the same average returns.

Why Does This Happen?

When Alex withdraws $45,000 during those early down years, the combination of withdrawals and market losses significantly reduces the portfolio’s value. With less money left to grow during the subsequent recovery years, Alex’s savings can’t bounce back.

Jordan, however, withdraws during years of strong returns early in retirement, giving their portfolio a chance to grow before experiencing losses. This timing difference makes a dramatic impact, even though the average return over 30 years is the same.

How to Manage It:

  • Diversify Income Sources: Use strategies like annuities, rental income, or cash reserves to reduce reliance on portfolio withdrawals.
  • Implement a Bucket Strategy: Allocate short-term needs to stable assets and long-term needs to growth investments.
  • Build a Cash Reserve: Liquid funds allow you to avoid selling investments at a loss during downturns.
  • Adjust Withdrawals Flexibly: Withdraw less during bad market years and more when the market performs well.

By carefully managing withdrawals and timing, retirees can mitigate the impact of poor market performance and preserve their savings for the long term.

2. Longevity Risk: The Challenge of Living Longer

Advances in healthcare mean people are living longer than ever before. While this is a blessing, it also introduces the possibility of outliving your savings—a challenge known as longevity risk.

Example:
Jane retires at 65 with savings intended to last 20 years. Thanks to her excellent health and advancements in medicine, she lives to 95. By her mid-80s, her savings are nearly depleted, leaving her to rely solely on Social Security, which doesn’t cover all her expenses.

How to Manage It:

  • Lifetime Annuities: Products like deferred-income annuities (DIAs) or qualified longevity annuity contracts (QLACs) can provide guaranteed income for life.
  • Diversified Investments: Maintaining a balanced portfolio with growth-oriented investments can help extend the life of your savings.
  • Regular Financial Reviews: Meet with your financial advisor regularly to adjust your plan based on evolving needs and life expectancy.

Longevity risk requires forward-thinking strategies to ensure that you can sustain your standard of living no matter how long you live.

3. Tax Risk: Navigating the Hidden Drain

Taxes are often overlooked in retirement planning, yet they can significantly affect how far your savings stretch. Retirees face unique challenges, from managing required minimum distributions (RMDs) to staying ahead of changes in tax laws. What’s more, the very structure of your retirement accounts—whether they’re traditional IRAs, Roth IRAs, or taxable brokerage accounts—can dictate your tax liability year over year.

Example:
John planned his retirement withdrawals without considering the tax implications of his RMDs. When they began at age 73, the added taxable income pushed him into a higher tax bracket, increasing his Medicare premiums and shrinking his net income.

How to Manage It:

  • Roth Conversions: Converting part of a traditional IRA to a Roth IRA before RMDs begin can lock in today’s tax rates and reduce future taxable income.
  • Tax-Efficient Withdrawals: Work with an advisor to sequence withdrawals strategically—for example, tapping taxable accounts first while letting tax-deferred accounts grow.
  • Tax Diversification: Build a portfolio that includes tax-free, tax-deferred, and taxable accounts, giving you more flexibility in retirement.
  • Charitable Contributions: Use strategies like qualified charitable distributions (QCDs) to reduce your taxable income while supporting causes you care about.

The bottom line? Proactive tax planning during retirement isn’t just about paying less—it’s about preserving more of your hard-earned money for the things that matter most.

4. Spiking Expense Risk: Navigating the Unpredictable

Even the best-laid retirement plans can be disrupted by unexpected expenses. Whether it’s a health crisis, family emergency, or natural disaster, these sudden costs—often referred to as spiking expense risk—can drain your savings faster than anticipated.

Example:
Helen and Mark had a comfortable retirement plan until Mark needed long-term care. Their expenses doubled overnight, depleting their emergency fund and forcing them to draw more heavily from their portfolio.

How to Manage It:

  • Long-Term Care Insurance: This can help cover nursing home stays, in-home care, or assisted living expenses. Policies with inflation riders ensure coverage keeps pace with rising costs.
  • Emergency Funds: Set aside at least 6–12 months of living expenses in a liquid, easily accessible account.
  • Insurance Riders: Add riders to existing life or disability insurance policies to cover specific risks like critical illness or hospital stays.
  • Flexible Spending Plans: Be ready to adjust your withdrawals and spending during high-cost periods to avoid permanently derailing your plan.

Proactive Planning Is Key
While you can’t predict every possible expense, working with an advisor to anticipate potential scenarios can make all the difference. Think of it as a safety net for your retirement.

Planning for a Secure Retirement

Decumulation is about more than just spending what you’ve saved—it’s about managing risks, adapting to the unexpected, and ensuring your money works as hard for you in retirement as you did to earn it. At Suttle Crossland, we specialize in creating customized strategies that address these risks and keep you on track to achieve your goals.

Let’s work together to turn your retirement dreams into reality. Schedule a consultation today, and let’s make the most of what you’ve worked so hard to build.

1 Scenario 1: Alex (Negative Returns in Early Years)

  • Starting portfolio: $1,000,000
  • Annual withdrawal: $45,000

First 3 years of retirement:

  • Year 1:
    • Return = -20%
    • Portfolio after return: $1,000,000 × (1 – 0.20) = $800,000
    • Portfolio after withdrawal: $800,000 – $45,000 = $755,000
  • Year 2:
    • Return = -20%
    • Portfolio after return: $755,000 × (1 – 0.20) = $604,000
    • Portfolio after withdrawal: $604,000 – $45,000 = $559,000
  • Year 3:
    • Return = -20%
    • Portfolio after return: $559,000 × (1 – 0.20) = $447,200
    • Portfolio after withdrawal: $447,200 – $45,000 = $402,200

After just three years, Alex’s portfolio is reduced to $402,200, less than half of the starting amount.

Years 4–30: Positive Returns (6%): For the remaining years, Alex withdraws $45,000 annually while the portfolio grows at 6%. By year 25, Alex’s portfolio is fully depleted.

Scenario 2: Jordan (Negative Returns in Later Years)

  • Starting portfolio: $1,000,000
  • Annual withdrawal: $45,000

First 27 years of retirement: Positive Returns (6%):

  • Year 1:
    • Return = +6%
    • Portfolio after return: $1,000,000 × (1 + 0.06) = $1,060,000
    • Portfolio after withdrawal: $1,060,000 – $45,000 = $1,015,000
  • Year 2:
    • Return = +6%
    • Portfolio after return: $1,015,000 × (1 + 0.06) = $1,075,900
    • Portfolio after withdrawal: $1,075,900 – $45,000 = $1,030,900
  • Similar Growth for years 3-27

Jordan’s portfolio grows steadily over the first 27 years, allowing withdrawals without significantly impacting the principal.

Last 3 years of retirement: Negative Returns (-20%):

  • Year 28:
    • Return = -20%
    • Portfolio after return: $1,050,000 × (1 – 0.20) = $840,000
    • Portfolio after withdrawal: $840,000 – $45,000 = $795,000
  • Year 29:
    • Return = -20%
    • Portfolio after return: $795,000 × (1 – 0.20) = $636,000
    • Portfolio after withdrawal: $636,000 – $45,000 = $591,000
  • Year 30:
    • Return = -20%
    • Portfolio after return: $591,000 × (1 – 0.20) = $472,800
    • Portfolio after withdrawal: $472,800 – $45,000 = $427,800

Even after facing three years of negative returns, Jordan finishes with $427,800 in their portfolio.