Is it time to rethink ‘The 4% retirement rule’?

Planning for a secure retirement has never been more difficult, according to David Lau, founder and chief executive officer of DPL Financial Partners. Americans are living longer than they used to and retiring earlier than they expected. At the same time, pensions are disappearing. Collectively, that trio of factors is placing unprecedented pressure on retirees, he said.

Lau’s comments came during an Oct. 26 presentation in New York City for financial journalists titled “The 4% Rule Reimagined” — an in-person and online event (and now available on demand) hosted by DPL, a Louisville, Ky.-based commission-free insurance company. Also speaking were David Blanchett, adjunct professor of wealth management at the American College of Financial Services, and Shannon Stone, a lead wealth advisor at Griffin Black Inc., a financial planning firm in Redwood City, Calif.

Blanchett explained how market dynamics are increasing the need to reshape retirement strategies. Bonds no longer provide the reliable income they once did, he said, and retiring into a down market (as many individuals now are doing) can derail plans and put retirees at risk of deleting their portfolios while still needing income.

“Clients are overridden with anxiety over the performance of their portfolio,” Stone said, which can lead retirees to act with extreme caution and underspend their retirement savings. “Portfolios are down everywhere, and the conversations are changing.”

Some of those conversations, Lau, Blanchett and Stone contended, are shifting away from the traditional “4% Rule,” which assumes the withdrawal of 4% of retirement investments for annual spending, and the balance remains at least 50% invested in equities.

The 4% Rule is an “incredibly generalized rule that should be a very basic, safe starting point,” Blanchett said, noting that many registered investment advisors (RIAs) still over-rely on it when working with clients.

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“It should be a guideline for, and a piece of, a retirement plan — not the actual retirement plan,” Lau added. “It also doesn’t account for clients’ risk tolerance.”

Panelists advised RIAs to give greater consideration to commission-free retirement annuities, which are replacing pensions and are built to generate income while also offering longevity risk mitigation, predictable income and downside protection. Certain annuities can meet an income need for less investment than is required in a fixed-income portfolio, they noted, adding that funding essential expenses with the guaranteed lifetime income that annuities offer should be part of a best practices strategy for RIAs. This approach is likely to become easier as the number of companies offering commission retirement annuities increases and the range of annuity products evolves.

The panelists also suggested that RIAs re-evaluate their approaches and tools based on current realities.

“There is no one retirement income style, and it shouldn’t be up to the advisor [to make that determination],” said Lau, who utilizes the Retirement Income Style Awareness Profile (RISA™) — which essentially measures a client’s comfort with income risk in retirement — to better gauge his clients’ income preferences and pave the way for deeper conversations about long-term planning.

Indeed, investments-only approaches to income expose retirees to a sequence of returns risk and are not appropriate for every individual’s income style preferences, Lau said, stressing that clients “need to prepare both financially and psychologically for retirement and create plans that take into consideration the many unknowns of retirement and their tolerance for income risk.”

The message was clear: Don’t dismiss commission-free retirement annuities: “If you do, you’re not doing your job,” Lau concluded.