Portfolio withdrawal techniques

[lowflyer]

Although officially ER'd for several years, until recently, we've not needed to begin any organized portfolio withdrawals. That is changing and it occurs to me that while I've always thought in terms of a portfolio return and a SWR, I didn't have a specific plan to start that process. We have a few other small sources of regular income, so even going forward, we may not need to make "systematic" withdrawals, but rather simply pull funds as needed. I always figured we'd do some kind of regular withdrawls (to theoretically replace a paycheck), but it doesn't look like it will happen that way...at least not right now.

Like most, our portfolio is made up of taxable and tax-deferred accounts. Since I don't want to generate unneeded taxable income, the plan would be to leave tax-deferred accounts alone till we either need them or we're forced to start withdrawals.

So the question is, when you finally do implement your plan to use those dollars you've saved, what different techniques have you used and did it work as you thought it would? Other suggestions are appreciated

 

[Alan]

Just RE'd so no actual experience as yet but I plan on using dividends from our Wellesley account. Next year I'll stop reinvesting the dividends and start directing them to a MM fund and use the money to supplement the pensions.

 

[REWahoo]

After spending down our taxable savings I set up an automatic withdrawal (transfer to checking account) from our Vanguard MM account - the 'paycheck replacement' method you mentioned. The MM account is funded by dividends from Wellesley (~40% of our portfolio) and sales of other investments on an as needed basis - ideally during periodic rebalancing.

This has worked extremely well for us. Vanguard's auto withdrawal/distribution system is easy to set up and manage online.

 

[jIMOh]

I would look to do the following:

1) max out Roth conversions (if eligible) on any tax deferred accounts to tax free (Roth accounts) up to top of tax bracket.

for example, if taxable income was 36k MFJ and bracket cap was 68k, then convert 32k to Roth in Late December.

what this will do is maximize you paying 15% tax on as much of your assets as possible and should help portfolio last longer.

2) With portfolio, recognize any other tax savings strategies (like tax lost harvesting) to minimize taxes paid on whole portfolio. If you have to access tax deferred accounts earlier to minimize taxes, consider those options.

Better to 72t and use up the "free money" at bottom of 10% and 15% tax brackets, than to live off capital gains while possibly not using up the bottom of tax brackets.

3) Consider using Buckets approach
a) bucket 1 is the cash you live off of
b) bucket 2 is income based investments (dividends, capital gains, interest) and is used to replenish bucket 1 yearly
c) bucket 3 is growth based investments and is occasionally used to replenish bucket 2. Only sell bucket 3 at a gain.

then try to keep all of Bucket 3 in your Roth.

4) Whatever withdraw technique you choose, be flexible and consider it might be better to spread withdraws across accounts than to only draw down one type. For example the current trend is to raise taxes on dividends, why not keep all those investments in tax deferred accounts and then use another withdraw technique.

 

[RunningBum]

My plan is like Alan's (only I'm not in Wellesley), and to use my annual AA rebalance to put whatever other cash I think I'll need for the year aside. Unless I change to have more dividend/income producing investments, I think I'll have to do some liquidating, at least until I can collect SS and a small pension.

 

[rescueme]

We have no taxable funds, so everything we take out will be taxed. While I'm retired and DW is still to join me, I keep a target 3-4 years within tax deferred MM funds in our accounts (held at VG & FIDO).

That "cash bucket" is used to fund normal retirement expenses and although quite large at this time of our lives, will be reduced as our other income sources come on-line during the next 7.5 years (e.g. pensions, SS, etc.)

Around the 15th of the month, I move my monthly budget amount (changes monthly within a few $$$, as all budgets do), pay federal tax (at the 15% level) and move it into my taxable MM accounts (also held at VG/FIDO).

Two days before the end of the month, I move those funds to my CU account to fund spending for the next month. Since my CU does not pay interest in share accounts I leave it on the VG/FIDO side to get a few pennies of interest.

All bills are paid from my CU share account, either by charging to my cash-back CC or a direct pull from this account from the vendor (e.g. utilities) - those that don't bill via a CC.

I could certainly set up an auto-withdrawal to have it done without my intervention, but I still like to be involved with it a bit (hey - I have the time, I'm retired).

With this method I don't have to file quarterly taxes since the tax payment is forwarded directly to the government. Also, since I don't pay state/local taxes on these withdrawals, it makes it easy from a tax payment view.

While I don't actually pay the 15% in federal taxes annually, but my wife still wo*ks, there is a variance in our final tax bill for the year. In early December (before my normal withdrawal/tax payment), I download the new version of TT for the current year to run a "guesstimate" on taxes due for the year. Based upon that initial result, I'll adjust my December tax paid to come within $50+/- of expected taxes due when we file the annual return.

Last December, I had no taxes withheld since TT showed I was close enough in monthly tax payments to meet our anticipated taxes due for the year.

Since you asked...

 

[growing_older]

I am not yet ER, so not yet taking withdrawals, but my plan when I do start is going to be somewhat guided by tax considerations. I want to leave tax deferred money in tax deferred accounts, but if I don't take some out I will eventually face RMD and possibly higher tax bracket than I want. While that means I'll probably live on mostly taxable money in the early years, I will still want to use the available tax brackets to either Roth convert or withdraw and spend up to whatever lower bracket I find will fit.

 

[Koolau]

Retired for 5 years. I've played this game totally by ear. As I've needed money, I've played the game of keeping the taxes as low as possible while still using up as much of the lower tax brackets as possible (taking money from tax deferred accounts) to either live on or convert to Roth IRAs. If I've needed more, then I've used taxable account money to avoid the higher tax brackets.

If you are good at tax stuff (if not, you might consider hiring help) you might want to calculate the "best" strategy for using your deferred money. My situation is that I'll be faced with significant Required Minimum Distributions at 70 1/2 unless I do something now. That is more of a driving force to me than AA right now. Maybe that's wrong, but I'm relatively heavy in cash equivalents and bonds (as opposed to stocks). As I burn cash, I lower that a bit. As i convert to Roths, I've converted to more stocks.

So, if I'm saying anything it would be to consider both AA and tax planning as you withdraw.

 

[W2R]

I am in my first year of retirement, so like you, I am just "testing the water" so far. Anyway, here is what I have been doing so far.

In my taxable account, all my dividends go to money market. At the start of this year (since I am a new retiree and don't want to get confused), I moved all the dividends for the prior year from MM to my bank. Then I can spend 1/12th each month until I withdraw again next January.

Other than the dividends from my taxable account, I have three income streams that are or will be direct deposited to my checking account.

(1) I have a small pension that is direct deposited to my checking account.

(2) My regular monthly equal TSP withdrawals are direct deposited to my checking account, almost like a second pension. My TSP is invested in a fund that is guaranteed to never lose share price, which is why this money seems as sure as a pension to me. Between the pension and TSP withdrawals I could maintain a bare bones existence.

(3) I am old enough for SS but have not claimed it yet. When I do, it too will be direct deposited to my bank account.

Good luck and I hope your thread comes up with some interesting ideas and thoughts.

 

[LOL!]

I will use the calculator at Optimal Retirement Calculator and Retirement Decision Support System as well as TurboTax and my brain to decide how much of my tax-deferred to convert to our Roth IRAs each year. We will live off of taxable for quite some time since we won't be paying any taxes on that return of capital. I don't expect to pay cap gains for years and years due to previous reams of tax-loss harvesting.

So we will not automatically re-invest the stock dividends in taxable which will give us some spending money. We will not have any bonds or cash in taxable because we don't want to pay taxes on those unqualified dividends and interest. Instead, all bonds will be in tax-advantaged. If we sell equities to pay for something, we can always buy equities at the same price in tax-advantaged, so it won't matter if we sell high or low. Actually, I prefer to sell at a loss in order to save on taxes.

Anyways, it sure doesn't seem very complicated to me.

 

[CyclingInvestor]

I am 52, retired 4 years with most of my $$ in IRAs, all in individual stocks. No pensions or jobs. My dividends (around 3%) just about match my 72t withdrawals. I make 2 transfers a year from IRAs into my taxable account, and from there move $5K as needed into my CU checking account. Very simple. So far it has worked smoothly.

 

[Independent]

We have both taxable and tax deferred. Like jIMOh, we're "filling up the 15% bracket" every year with transfers into Roth because we can see future years with 25% taxes on RMDs. It's fairly simple to do a trial tax return in Dec and decide how much to move.

Like you, we have some regular income (DB pension) that covers basic expenses, so withdrawals from other accounts are sporadic and tied to special spending.

 

[lowflyer]

Thanks for all the replies. I appreciate the different points of view. Like LOL said, it's really not very complicated. I know where to get money if I need it, I was just beginning to come up with a more organized way of making that happen. I had not thought much about the ROTH conversion idea and will look into that in the context of our tax situation.

More ideas are welcome.

 

[harley]

We are also still living off our cash, and plan to transfer dividends and interest into our MM accounts in the future. I will supplement that by tax free cash earnings playing my sax on the boardwalk.

 

[Gotadimple]

I have all dividends paid in cash in my various accounts (taxable, tax-deferred, and Roth). Additionally, I have been converting over to a Roth to the top of my tax bracket to try and reduce the amount I will need to take in RMD's when I am required to take them.

That said, what I have done the last two years is to determine how much cash I need each year. Then I rebalance and take the result of the rebalance (using the cash in the various accounts), plus the dividends and interest in cash from taxable and push it over to my credit union account. I use several accounts (savings, money market, and CDs) to hold the cash I need throughout the year.

Asset location is a big thing to consider (what goes in taxable, deferred, and Roth). Others here have identified how they locate assets and I do something similar. I have re-aligned these accounts when I rebalance to take advantage of re-locating assets.

ORP (someone provided the URL earlier) is an excellant tool to help you determine which accounts should be liquidated first, and it does make assumptions about paying income taxes in it's methodology.

-- Rita

 

[kramer]

For those who retire very early, one must carefully consider a withdrawal strategy in the context of your taxable to tax-deferred net worth ratio (adjusted for other income like pensions).

Retiring early can present a problem for a young person because tapping tax deferred can only be done via SEPP, which is an irreversible, inflexible, and possibly costly decision tax-wise. Additionally, tax considerations normally strongly favor mostly equities in the taxable portfolio and mostly bonds in the tax deferred portfolio. But this can get you into cash flow problems in a market crash, when your equity-heavy taxable portfolio plummets.

Some suggestions:
* Track SWR from *both* your whole portfolio and just your taxable portfolio
* At a minimum, you can put some bonds in your taxable portfolio so that your interest and non-qualified dividend income comes up to your standard deduction. This allows you to make your taxable portfolio more conservative with little to no tax cost.
* For an early retiree with a high withdrawal rate, taxes can become a real problem and should be carefully accounted for in your budgets

I think once you are in your 50s, it is safer to consider a SEPP withdrawal strategy.

 

[Rambler]

I only have a tiny amount in tax deferred accts, and the bulk in a taxable account. I am not yet ERd, but the plan is to have enough cash for a couple years in the MM account and a hi yield checking acct dedicated to accruals and annual expenses. Muni and corporate bond interest along with dividends will flow into the MM. Each month I will transfer that month's accrual to the hi-yield account and the normal monthly expenses to our regular checking acct. At the end of each year/beginning of the next year, I will review the withdrawal rate to be sure I'm within the parameters I have set for myself, given the current market conditions (AA and WR). Any funds over two year's of expenses and total accumulated accruals will be reinvested in the process of rebalancing. For the first 6-8 years, I believe that we will have no trouble living on the initial level of dividends and interest, which should increase as I reinvest the excess yearly. That's not to say we are not considering total return, just that we should be able to manage handily on dividends and interest. In year 7, deferred salary from a non-qualified plan kicks in, and should provide for most of our needs for the next 10 years. During that time, we will keep reinvesting and rebalancing. In year 18, we are on our own again with the taxable, back to the initial pattern.

That's our current thinking anyway...I have 2 years and a few months to go, so we may teak the plan again a few times by then. I guess everyone's situation is different, but that is how ours is likely to work.

R

 

[chinaco]

Since we all spend what is left over after income-tax and Cap Gain tax... it is important to have a tax management strategy.

If done properly, effective management of taxes can increase your lifestyle by having more spending money at the same gross WR% or prolong your portfolio by reducing the WR%.

Mitigating risk of selling when markets are down is another concern. There are several strategies that can effectively reduce risk. The buckets variations is one popular approach.

Managing the yearly spend against the portfolio construction (i.e., maintaining funding versus your longevity) is important. Again... there are several legitimate and effective methods of doing this.

Developing a budget or min/likely/max spending guidelines is very important. Unless you have quite a bit of excess assets compared to your spending habits, this will require very careful analysis of projected expenses.

 

[donheff]

This was DW's first ER year and thus the first year we have tapped our portfolio for expenses that exceed my pension. We have about 1/3 of our portfolio in taxable and 2/3 in a mixture of DW's retirement accounts and my TSP. The taxable is fully in equities. The TSP is currently fully invested in the super-safe government bond fund serving as a cash bucket. And DW's retirement accounts are a mixture of equities and bond funds that round out our AA. In January I liquidated enough equities in taxable to cover our annual expenses and moved it over to a MM attached to checking. At the same time I bought a counterbalancing amount of equities in DWs retirement accounts using cash equivalents there. This coming January I anticipate doing essentially the same thing. We will liquidate equities in taxable and at the same time buy an equivalent amount of equities in the TSP - effectively spending cash from the TSP cash bucket.

But there is the dilemma - when to stop pulling from the "cash bucket" and reallocate to our target AA (including funding the cash bucket). The whole "cash bucket" concept assumes that you will weather a downturn using "cash" while the equities build back up. But the longer the downturn lasts, the smaller your cash bucket gets and the more out of whack you are from your targets. At what point do you figure that you should start replenishing cash in case of a new, bigger downturn? In essence when do you call a restart and get back in AA balance if you don't fully recover? I'm not there yet but no one has spelled out a compelling strategy to achieve this. I think I started a thread on this topic once that never really went anywhere. Maybe I will try again in January.

 

[Rich_by_the_Bay]

Lots of good ideas so far. We'll be drawing down our post-tax cash for about 5 years (it will almost all be taxable after that), then replete that from intermediate fixed funds (like total bond market or intermediate bond), TIP fund, etc.). It should be about 13-14 years before we need to sell stock fund holdings, though in an occasional very good streak, we'll skim some off to replenish cash. I second the idea of filling up your 15% bracket with Roth conversions -- maybe even the next bracket if you feel your RMD will be high some day.

We also have a post-tax cash-like "contingency" fund we keep (mentally) out of our portfolio. Aside from black swan necessities we will use that to help get through nasty markets. It's really just like having more cash than in Plan A but provides us with a little more security and a tool to smooth the way -- maybe even for the occasional buying opportunity in equities.

 

[LOL!]

... But the longer the downturn lasts, the smaller your cash bucket gets and the more out of whack you are from your targets. At what point do you figure that you should start replenishing cash in case of a new, bigger downturn? In essence when do you call a restart and get back in AA balance if you don't fully recover? I'm not there yet but no one has spelled out a compelling strategy to achieve this.

You are supposed to be rebalancing all along. That means buying equities when they drop. Perhaps that is not compelling to bucketeers.

For myself, I do not rebalance continuously, but do so when things get out of their range. A standard range would be the larger of 5% of total portfolio value or 25% of an asset class. I think good days to look whether you should rebalance are those one-day worst days in the market where things drop by 3% to 4% or more. They do not happen that often ... maybe 2 to 6 times a year.

 

[Rich_by_the_Bay]

You are supposed to be rebalancing all along. That means buying equities when they drop. Perhaps that is not compelling to bucketeers.

How often to rebalance is not a slam-dunk. There are some who favor very frequently, like every month or two, and others like Otar who favor every 4-5 years. The available models and analyses that I have read are far from definitive.

I hope to rebalance every two years or so within each bucket (e.g. among different types of bond holdings) and maybe every 4 years or so between buckets (swapping fixed and equity funds). Rebalancing "all along" might mean different things to different investors.

 

[LOL!]

I agree.

I think folks might be surprised how rarely they would rebalance when using the 5/25 ranges. It could be every 4 to 5 years especially if they did not re-invest dividends and other distributions, but used them judiciously.

Anyways, rebalancing is more about keeping the same level of risk and not about making lots of money on it.

 

[harley]

You are supposed to be rebalancing all along. That means buying equities when they drop. Perhaps that is not compelling to bucketeers.

For myself, I do not rebalance continuously, but do so when things get out of their range. A standard range would be the larger of 5% of total portfolio value or 25% of an asset class. I think good days to look whether you should rebalance are those one-day worst days in the market where things drop by 3% to 4% or more. They do not happen that often ... maybe 2 to 6 times a year.

I don't know...that sounds an awful lot like market timing to me.