So what's an advisor to do? "The best you can do is explain the risk," says Bengen, who tells the story of a couple, then age 63, who came to him seven years ago with a taxable and tax-deferred investment portfolio of $500,000. The couple, he says, insisted that they needed to withdraw $35,000 per year, or 7%, to maintain their pre-retirement standard of living of $60,000 per year. Despite Bengen's urging to the contrary, the husband, a former engineer, and his wife, a homemaker, insisted that the stock market would continue to do well and that it was unlikely that they would run out of money over the next 30 years.
"That worked well for a couple years," says Bengen, who created what he describes as an optimal post-retirement portfolio of 65% stocks and 35% fixed-income securities for the client. "And then the bear market hit and they got clobbered, and by the end of 2002 they felt pretty sorry."
Sorry, indeed. Bengen says the portfolio, now valued at about $320,000, would vanish in seven years if they maintained the same pre-bear-market withdrawal rate. And given that the couple could live another 20 years, that left 14 years of just getting by on other sources of retirement income, including Social Security and money from a defined benefit plan. "They weren't willing to come to grips with reality," says Bengen. "Experience is a great teacher, but it can be painful. The numbers don't lie."
The couple is now learning just how painful. They have reduced the amount they are withdrawing from their portfolio to $12,800, which translates into a withdrawal rate of 4%. And they have reduced their standard of living. They have stopped traveling and splurging on gifts for grandchildren. They have refinanced their home mortgage to lower expenses. "They had a lot of fat in the system," says Bengen, who now is optimistic that the couple will no longer outlive their income.
According to Bengen, the couple represents the exception rather than the rule in his practice. "Most of my retirement clients came through in one piece," he says. "They stayed within the (4%) limits."
Bengen says that the need for retirees to adjust their standard of living in retirement is very common, although solutions to making income last a lifetime, including the use of annuities to create income-requiring a case-by-case analysis by advisors.
Robert J. Powell III, co-author of Decoding Wall Street, executive producer of PBS' More Than Money, and former editor-in-chief of Mutual Fund Market News, operates a financial services communication and consulting firm based in Swampscott, Mass.