How to Spend Wisely in Retirement

En español | Once you retire, you still have a very demanding job: making sure your money will last you through what can be a multi-decade retirement.

You may be familiar with the 4 percent strategy, which guides you to withdraw that amount from your investment accounts in your first year of retirement and then adjust that withdrawal annually for inflation. This may work out just fine, but way too many of you may find yourselves pulling more than that from your savings early on for fun things—and then run short on cash later.

I have another withdrawal strategy, which I think can help you sleep better at night and avoid the pitfall of not having enough money when you may need it most.

Divide your retirement-income strategy into two buckets: needs and wants.

Needs

First, estimate your essential monthly outlays: housing costs such as property taxes and utilities, insurance premiums, food, taxes, gasoline and medical expenses. By now, I hope, you’ve paid off your mortgage. 

Then calculate your income at age 70, my recommended retirement age. That will include your Social Security retirement benefit, any pension (if you’re lucky enough to have one) and the required minimum distributions (RMDs) generated from your 401(k) and traditional IRA accounts. (Those accounts should comprise stock and bond funds, with the mix dependent on your age and comfort level. One good starting point: Subtract your age from 100 or 110 and put that percentage in stocks. For instance, at age 70 you might have 30 to 40 percent invested in stocks.)

If those income sources won’t cover all your needs, you’ll need to add supplemental income from any other savings you might have. Notice I said “income.” I don’t want you to dip into principal in your initial years of retirement

Invest only as much money as is necessary to get the yield that will balance your “needs” budget. And play it safe with this money. Right now, federally insured online banks are offering two-year certificates of deposit paying over 2.5 percent in annual interest. Alternatively, you could put your money in short- or intermediate-term Treasury or investment-grade-bond index funds, which have slightly higher yields.

Now on to the next bucket.

Wants

If you have savings left over after you’ve set up this “needs” kitty, you can establish a second portfolio to help fund your wants, such as travel and fun with the grandkids.

You can afford to be a bit more aggressive with this pot of money than you are with your “needs” investments. I myself am a big fan of funds focusing on companies that continually raise their dividends. Though the value of these mutual funds and exchange-traded funds will indeed fall when the market drops, over longer periods—of, say, at least 10 years—history suggests you’ll see the value of your investment rise. In the meantime, you’re earning income to help fund some retirement fun. In managing both your needs and wants, you, of course, can also withdraw some principal from your retirement accounts. But I strongly recommend trying to live off only your income for the first 10 years or so of retirement. At age 80, if you start to spend 5 to 6 percent of your savings a year, then each following year adjust the dollar amount of your annual spending to keep up with inflation, you should be just fine.

This money-management plan might seem cautious compared with the 4 percent rule and other retirement-spending strategies you may be familiar with. But if you spend more while interest rates are low or the stock market is in deep decline, I think you’ll run through your savings too fast.