What happens to retirees when the money runs out?

A Maryland couple is finding that out the hard way.

We never expected to live this long. My parents died when they were in their 70s. My brother was 62 when he passed away. My wife's father died while she was still a little girl. I believe her mother was in her 70s when she died. And my wife's big sister was a teen-ager when she died. And yet, my wife and I are still standing.

We did plan for our retirement. We paid off the mortgage on our 1950s rancher to guarantee that we'd have a roof over our heads no matter what. And, while I was still working in the small business I had founded, I stashed away a couple hundred thousand dollars in some relatively safe investments. I was confident that with just a six percent average return on our investments, plus our combined Social Security benefits, and memberships for both of us in Medicare and supplemental health care insurance policies, ours was a fail-safe plan. Man, was I ever wrong. Ten years and about a $100,000 dollars wrong.

Things haven't quite worked out as planned. A number of substantial reversals in the stock market, coupled with unanticipated departures of several major clients from my business proved disastrous. Less business. Less income. No fail-safe retirement. We now have no income other than our Social Security benefits. Interest paid on our severely depleted "savings" is practically non-existent.

We now have to deal with the ever-growing problem of stretching our dwindling retirement plan resources and Social Security benefits to maintain an acceptable lifestyle and standard of living. This surely won't be easy.

There's more at the link.

This is going to be an increasingly common experience as retirees live longer, and as the rate of return on investments steadily shrinks.  At present, thanks to zero interest rate policies and other official measures, that rate has been reduced far below historical averages - and there's no sign of improvement in the short to medium term.

Since the 1990's the so-called '4% Drawdown Rule' has dominated US retirement planning.  However, under the impact of the 2007/08 financial crisis and its aftermath, that may no longer be good enough.  In a recent analysis of retirement planning, the New York Times reported:

In a recent analysis, Mr. Pfau compared several withdrawal strategies in an attempt to illustrate how spending patterns might change to guarantee that a portfolio will last for 30 years, even if low rates persist or retires face some other awful combination of events.

He found that people who spend a constant amount adjusted for inflation — similar to the 4 percent rule — would have to reduce that rate to 2.85 to 3 percent if they wanted assurance that their spending would never have to dip below 1.5 percent of their initial portfolio (in inflation-adjusted terms).

So a retiree with $1 million could securely spend nearly $30,000 annually for 30 years, in the best and worst of market conditions. The big drawback, though, is that if economic conditions are generally average, retirees would be left with $794,000 in unspent money. If they were unlucky and experienced terrible market conditions, they would be left with $17,900.

That’s the trouble with this strategy. “Most of the time, you underspend,” said Mr. Pfau, who is also a principal at McLean Asset Management. “Yet you still run the risk of running out.”

Again, more at the link.

There's also the real danger that Social Security payments - on which many plan to depend for a significant proportion of their retirement income - may be so drastically reduced in purchasing power terms (due to not increasing in line with the real, as opposed to 'official', rate of inflation), that they may no longer be adequate.  Some even believe the entire Social Security system may become bankrupt, and its payments be suspended indefinitely.  I don't know about that, but given lower payments (in real purchasing power terms), we'll be more and more dependent on our own savings for retirement - and most Americans don't have much saved at all.  What's more, increasing medical costs may bankrupt Medicare and Medicaid, so that the relatively low-cost medical care anticipated by many approaching retirement simply won't be there.  They'll have to fund such expenses themselves to an ever-increasing extent.

Look at it this way.  If you expect to need $30,000 per year in retirement income, over and above Social Security payouts, and if you accept as valid the 2.85% annual withdrawal rate mentioned in the New York Times article above, that means you'll have to have saved over a million dollars by the time you retire.  That's a frightening figure . . . and you'll need more than that if you survive for 35, or 40, or 45 years, which is entirely possible given modern medicine.  I doubt whether many Americans have even a tenth of that sum saved for retirement!  I certainly don't.

There's also no guarantee you'll be able to sell your expensive home for as much as you expect, and use some of that money to fund your retirement.  We've discussed that in these pages before, most recently earlier this month.  Non-liquid assets are worth only as much as someone is prepared to pay for them - or as much as they're able to finance through the banks.  If no-one can afford the asking price, or no mortgage is available, sellers are as badly hurt as buyers - as are, in this case, the former's retirement plans.

Food for thought . . .

Peter