The reality is, it’s never a good idea to withdraw money from a retirement account without a clear plan in place. And the best way to come up with a clear plan is to ask yourself three important questions.
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1. Do I have a plan for making it last?
Unless you’re the very adventurous type, you probably wouldn’t take off on a road trip without a map. Think of a financial plan as your map for retirement.
Run the numbers; then run them again. Even a small variance can make a huge difference. For example, let’s say you have an individual retirement account (IRA) with a balance of $500,000, and your account earns an average annual return of 7% before taxes. If your plan is to follow the old-school 4% rule and increase your withdrawals by 1% annually, your account would be worth over $869,000 in 30 years.
However, if the average annual rate of return falls to 3%, as it has in the past, the same IRA would be worth around $13,000 in 30 years. The reality is that you can’t predict the average rate of return over a 30-year period. However, you can prepare yourself for market downturns that can drain your account.
This leads to the next question to ask yourself.
2. What other sources of income do I have?
Take inventory of all your sources of income, including Social Security, pensions, royalties, rental income, and annuities. Can you get by on that income alone without taking money from your retirement account when the market is in the dumps?
If not, you might want to build an easily accessible cash fund you can draw from when the market is down. Here’s why: Withdrawing money during a depressed market means having to sell more assets to net the money you need. While that may not sound so bad in the moment, history has shown that when the market recovers, it tends to come roaring back, and any money you withdrew won’t be there to grow with it.
If you have money in a certificate of deposit, money market account, or high-yield savings account that you can draw from instead, you can preserve the strength of your portfolio.
If you don’t have such an account, you may want to wait until you’ve had time to build one before accessing your retirement account.
3. Have I accounted for inflation?
Think back 20 years. A dozen eggs cost $0.98, a loaf of bread was $0.97, and you could buy a postage stamp for $0.39. That’s the power of inflation. Twenty years after you retire, things are going to cost more than they do the day you leave the workplace.
You may want to work with a financial planner to come up with a post-retirement plan that matches the reality of how much things are likely to cost and how far your money can stretch in the face of higher prices.
The average American doesn’t expect to be filthy rich in retirement, but most would like to live comfortably. Waiting until you can answer the important questions before accessing your retirement account may be a good first step.
