How Much Can You Spend With $2.5 Million In Retirement?

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This is the question I get more than any other after 15 years of doing this: how much can you actually spend in retirement without running out of money?
 
John and Tina are 60, sitting on two and a half million dollars, and ready to retire. They want to travel. They want to finally renovate the house. They just don't know if their portfolio can actually support it.
 
This video is the exact numbers we ran for them, and what we found changed how much they thought they could spend.
 
We're going to cover:
 
- the withdrawal rate in year one that looks dangerously high, until you see what happens to it seven years later
- why their tax bill was basically zero for the first few years of retirement, and the mistake that would have cost them thousands if we hadn't caught it
- the extra $40,000 a year we found room for without touching their core lifestyle at all
- the one risk that could unravel their entire plan in the first seven years, and how we stress tested for it
- how we restructured their portfolio so a market crash doesn't force them to sell at the worst possible time

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Transcript

How Much Can You Spend

SPEAKER_00 0:00

After 15 years of helping people plan for successful retirement, here's the question that I get more than any other. How much can I actually spend without running out of money? Today I'm answering this question with a real case study so you can see how that number gets calculated and then apply it to your specific situation with your

Meet John And Tina

SPEAKER_00 0:15

numbers. So I'm going to introduce you to John and Tina, who are 60 years old with $2.5 million, and they want to retire so they can finally start doing the things they've been putting off like travel and home renovation. Let's see how much they can spend. And even better, let's see what tweaks they can make to spend even more without sacrificing the integrity of their portfolio. Let's dive in.

Assets And Starting Point

SPEAKER_00 0:35

So here we see Tina and John right here. And what you can see in their plan is we're going to start with where are they today? Here's a combination of all their investments between Tina's 401k, her Roth IRA, they have a joint investment account and then John's IRA. They have some money in the bank and they have a paid for property that's worth just under a million dollars. But what they really want to know is the answer to the question can this get us to where we want to go, which is can we retire? So let's plug in their numbers exactly as they told me and see, does this

Goals And Income Setup

SPEAKER_00 1:03

really work? So what you can see right here next is we're gonna go to their goals. And these are the goals that they shared with us as they're both 60 years old today and they want to retire and their core basic expenses to do what they want to do and to live comfortably, that would take about $11,000 per month. Now they do have a travel goal slash a home renovation goal, but they didn't feel confident that they could both spend $11,000 per month after taxes and take all those trips and do some of that home renovation. So what we started with was this of could they, are they in a position today just to retire and maintain those core expenses as a baseline? Depending on the answer, we'll then work backwards to see is there some additional amount we could take and add to travel, or do they need a cut from this to start? So those are their goals, and the income sources that they have to help fund those goals are as follows. Tina and John both have their salary today, but we're also assuming they retire today. That's the position they wanted to be in. When they collect Social Security, they'll have healthy benefits. And you can see here Tina's benefit at her full retirement age of age 67 will be $3,800 per month. John's benefit, similar age or same age at age 67, he will get about $3,700 per month. So those are income sources they'll have at some point, but they're not gonna have that right when they retire. So these are the only non-portfolio income sources they will have on a go forward basis. So that gives us a snapshot of where they are today in terms of their investment values, where they wanna be in the future in terms of how much they want to spend, and then what support they'll have along the way in terms of the social security income that will kick in at some point.

Modeling Retirement Cash Flow

SPEAKER_00 2:31

The next thing that we need to do is we now just need to model this out year by year, where is income gonna come from throughout retirement? So where we're gonna go next is right here to their retirement cash flows. Now, before anyone panics about the numbers they say here, this is not pass or fail. This is simply looking at what would be required of their portfolio in order to support their goals. Let me show you exactly what I mean here. We're gonna break this down into three main categories cash inflows or income, cash outflows or expenses, and then net flows, which is essentially the amount that's required from their portfolio. So let's start with income. If we drill down into income here, the first thing we notice is there's no more salary. So that thing that had been supporting all their lifestyle, all their expenses up until now, that completely goes away. What they will have at some point is social security, but you can see right here that's not going to start for about seven more years. And when it kicks in, it's a very healthy benefit, but there's a big gap between where they are today and when social security kicks in in the future. But the first thing we're doing here is understanding what will that income look like when it starts to kick in. The next thing we look at is expenses. Expenses here are their living expenses of $11,000 per month, which is $132,000 per year. But that's in today's dollars. Every single year, the cost of food, the cost of clothes, the cost of gas, everything's gonna keep getting more expensive. So we need to assume that that's gonna happen every year throughout retirement, which is why this living expense number continues to grow. So there's those basic expenses that they have. They have not yet added in travel or home renovation.

Taxes and Roth Conversion Window

SPEAKER_00 4:01

What they do need to add back in though is taxes. So this is money they want to spend after taxes have already been paid. And we need to factor that in here. Now, what you'll notice is a whole lot of zeros those first few years. And where that comes from is if they're living fully on their brokerage account, which is how we modeled this out initially, they might be in a very low tax bracket for the first several years of retirement, in fact, maybe in a 0% tax bracket. At some point, though, that's gonna change as Social Security kicks in, as they're now pulling money from traditional IRAs as opposed to their brokerage account. There's going to be a tax bill. So flagging this because one opportunity that immediately jumps out for Tina and John is can they do some level of Roth conversions right here, where they're shifting some of their traditional IRA accounts to their Roth IRAs at a much lower tax bracket in those years than they would otherwise have to pay in future years. But I'm setting that aside for right now just to see their total expenses and can they even do this in the first place? Once we start to go down here, you can see here's the actual total amount that's needed to pay taxes and then have the equivalent of $11,000 per month in today's dollars, or which is $132,000 today. This right here is what I want to focus on. This number right here says what role does the portfolio need to play in all of this? Well, the portfolio is going to be the difference or the gap between what do you need to spend, including taxes, including travel, including healthcare, including basic expenses. What do you need to spend? How much of that is covered by things like Social Security or pension or rental income? The gap, that's where your portfolio comes into play. So this is those numbers. This is how much we need to be in a position to take out of Tina and John's portfolio to ensure they can support the lifestyle they want

Withdrawal Rate Reality Check

SPEAKER_00 5:35

to live. Now, here's what we need to do. This is the most important part of everything that we're going to look at here. We need to take that number and convert it into a withdrawal rate to understand whether or not this is sustainable for them. If we go back to Tina and John's plan here, what we need to do is take this number and translate it into a withdrawal percentage, which is the key indicator that tells us is this doable or not. So here's what I'm looking at. If I look at those dollar amounts they're pulling from their portfolio, here's what those dollar amounts represent as a withdrawal rate. If we look at that number, some people might call that on the high end of a sustainable amount, but that's not the only thing I'm looking at. I'm not just looking at year one withdrawal rate, because here's a really critical thing that happens here. They do spend about 5% per year of their portfolio over the first six, seven years of retirement. But then look what happens right here. Their withdrawal rate drops to right about 2%. And it's not because they're taking a pay cut, it's because Social Security has kicked in, alleviating some of the pressure from their portfolio because that's providing some income. And now their portfolio doesn't have to do all the heavy lifting. Now it jumps back up here to the 3.5% range or above, not because they're spending more, but because required distributions are kicking in. And that's a reflection of what we're seeing right here. But when we look at this holistically, the 30,000-foot view, these withdrawal rates give me the confidence to not only say, yes, this is very sustainable, assuming you're invested the right way, assuming you withdraw your funds the right way, but can we do more? And that's what the most exciting part was with Tina and John, as we're able to start to show them this. We could show Tina and John that this is what your portfolio is valued at today, right? About $2.5 million. We expect that that's gonna support your needs over the next six, seven years. Now we're assuming an average rate of return here of about 7% or so. That is not a guarantee that's gonna happen. It's simply using historical averages as a starting point. But to state the obvious different rates of return are gonna make this look very different. This is using about 7%. Once Social Security kicks in here at age 67, you see a little bit of an inflection point and the portfolio actually grows even more. That's because there's less pressure on the portfolio as we just looked at, meaning more of its growth each year is reinvested. But that's not what I

Spending More On Travel

SPEAKER_00 7:40

want to look at right now. What I want to look at, what actually matters, is Tina and John, what's actually gonna make retirement as fulfilling and enjoyable as possible for you. So here's now some of the different variables that we can look at. They're spending $11,000 per month. They're good with that. What we started to see is how much could they start to spend on other things like travel or home renovation. So as we start to plug these numbers in, we can show them exactly what that trade-off is. Now, these numbers, again, are based upon assumptions or rates of return, but the general discrepancy or the general difference between one scenario and another is here is what their portfolio would have looked like. Here's what it looks like with spending more. Now, of course, there's gonna be fewer dollars left at age 90 or at the end of their plan if they spend more on travel along the way. But the goal was never to die with as much money as possible. The goal was to get to this point where they've worked so hard for their money and now they can flip the switch. Their money now starts working hard to support them as they pursue their retirement goals. So not only could they do this, one other thing we want to look at is the probability of success, which is an imperfect measure in some ways because it can be misinterpreted. And if this is all your advisors focused on, probably time to find a new advisor. This is an indicator of success, but it should not be the key thing that you're looking at. What we really want to know is how much can we take out of here? How much can we spend before we start getting to the point where our withdrawal rate is too high and it might cause us to spin down our portfolio too soon. But if I keep plugging different numbers in, just to show Tina, just to show John what's possible here, you can see that even as this number grows, they're in a position to support it. Yes, the probability of success starts to decline, but that really is telling us that there's about a 17% chance that at some point in their retirement years, if this is how things go, they'll probably need to make an adjustment, cut spending temporarily, push the trip off a year, do something if there's a serious market downturn to be able to put themselves in a position and not run out of money.

Stress Testing the Plan

SPEAKER_00 9:30

But this raises a very important point. What are those things that could derail their plan? What is the most likely risk factor here? Because the thing for Tina and John here, they're retiring relatively early, which means there's a lot of years of their portfolio supporting all of their needs before Social Security really kicks in. So what I want to know is not only to tell them how much can they spend, but what are the key risks that we need to be aware of so we can start to prepare them, start to prepare their portfolio and their plan to protect against those risks. To show them that I'm gonna go right here. I'm gonna go to this stress test tab. As a reminder, if you're seeing this and you want this analysis run for you, this is exactly what we do at Root Financial. Take a look at the link, the first line in the description below or the first penned comment, and I'll show you exactly how we do this for our clients. But what this is doing is this is saying, what could go wrong? This is by no means a comprehensive list, but what are the major things that typically can derail retirements? Stock markets dropping by 30% right when retirement starts, social security being cut, inflation rising by 1% higher per year than we think it will, asset returns lower, tax expenses higher, so on and so forth. And when we look at this, what we can start to see is if all these happen, and I can toggle this as much as I want, but if these happen as we're looking at here, what stands out is the market dropping immediately, that becomes the biggest risk to the plan. Why? Well, it makes sense. A market drop immediately combined with higher withdrawal rates from their portfolio, because there is no social security yet, that's gonna be the biggest variable that could derail

Portfolio Strategy for Downturns

SPEAKER_00 11:08

their plan. So what do we do for Tina and John? Well, we took a look at their portfolio and we structured it in a way that says we have no idea exactly what the market's gonna do, especially in those early years of retirement. But can we diversify intentionally to make sure we have a mix of the right types of things that will protect you regardless of if the market's up or down? And if I show you a quick high-level summary of what I mean by that, is this is showing us what Tina and John need from their portfolio every year in retirement. We need to make sure that the first few years of living expenses, and not living expenses as a whole, but living expenses specifically from their portfolio, can we allocate those dollars to something in their portfolio that's not gonna grow a whole lot over time, but it's gonna remain very stable? It's gonna remain very secure. Because if there's a downturn in the market, yes, the portfolio as a whole is gonna drop, but we can be very intentional about what specific parts of the portfolio we draw from. And if there's a downturn of 30, 40% or more, if we have some assets that have stayed flat, potentially even gone up in value, those are the assets we're going to draw from, which prevents us from having to sell the great stock long-term investments we have while they're at a deep discount. So this is how we solved this for Tina and John. As we looked at their base expenses, we designed a portfolio that said if you're going to retire at this age and have these needs from your portfolio, here's exactly how you need to invest to protect against a downturn, but also to ensure your living expenses are keeping up

Tax Strategy Bonus

SPEAKER_00 12:34

with inflation. Now, as a quick bonus before we wrap this up, this was just showing how to de-risk a big part of the plan. We didn't even get into yet with them how do you add to your plan by having the right tax strategy? So if I walk through this with them real quick here, there's some low-hanging fruit just in terms of when do they pull money from different accounts, when do they do Roth conversions? Not asking them to spend less, not asking them to make any sacrifices, simply asking them to say, can we be smart about when we take money out of your pre-tax accounts so that we get to choose, at least to some degree, what tax bracket we pay that at? That alone added a tremendous amount of value to their plan.

Wrap Up and Next Steps

SPEAKER_00 13:11

So when we looked at this, we showed them they could spend that $11,000 per month. We showed them they could spend that extra $40,000 per year on travel and home renovation, and then we showed them how to de-risk this through structuring their portfolio the right way and then showing them how to get some fairly significant tax savings that simply go back to their bottom line. Again, if you want to see exactly how we help implement this for people who have a million dollars or more in their portfolio, click the first link in the description below or the link in the pinned comment. But the goal with Tina and John, as with the goal with anyone, was never to see how do we get the biggest number on the screen. It was to say, how do we take these resources and these assets you have spent your whole life working so hard for and turn that into the peace of mind and security of knowing that's going to now support you and the goals that you have through your retirement years? If you're watching this and you have a portfolio that's similar to Tina and John, you're probably smart enough to do this on your own. You wouldn't be where you are with that asset amount if you didn't. But do you want to spend your retirement years doing this? Do you want to be digging to the complexities of tax planning, withdrawal sequencing, investment structuring to fully support what you want to do? If not, check out the link to the video below. The Sequoia system shows you how we approach that so that you can fully live the retirement goals that you have, knowing that these types of things are being handled for you. And if this was helpful, the next video I want you to watch is this one right here. It shows the difference between what if you retire with $100,000, a million, or $10 million so you can see how different amounts change the life that you could potentially live.