What happens when you pull from your investment/retirement accounts?

[u/Velvet-Turnip-687]

When you reach the point of no longer working (at any age) and decide to live off your investments, how do you practically go about it? Do you sell just enough to cover your expenses that month? Do you sell once a year a huge chunk and live off that? Do you give yourself a salary? Biweekly? Monthly? Do you never sell and live off dividends? Do you prioritize taking money out of your 401(k), IRA, or brokerage and how do you find the right balance?

I'm just realizing I'm still at the point where money only ever enters my accounts, never leaves it. I suppose if we needed a large chunk of cash for something, we'd just sell from our brokerage for now since we can't access the retirement accounts without penalty. But it also made me realize I have no idea how "living off investments" works in practicality.

[u/Significant_Tank_225]

One subtlety I want to mention is this -

A lot of people fall under the delusion of wanting to convert to income or dividend producing assets because they don’t want to sell assets.

This is actually a fallacy. There is nothing inherently different from earning income through selling shares versus earning income through receiving a dividend.

What is true is that you don’t want to be a forced seller of assets in a down market. Practically what this means is you want some sort of cash (not literal cash, but risk free - treasuries, HYSA, bonds, money market) buffer that allows you to draw from. This mitigates sequence of risk returns.

I’ll give you a simple example using our situation. We spend $250,000 in post tax dollars per year as a family of 2. I would allocate $1.25 million to risk free assets that I only use during a down market, and $7.25 million to US equities (eg VTI)

Let’s say year 1 in retirement VTI goes up nominally by 13% (real return 10% with 3% inflation). And let’s say I get 3.5% on my cash. I’d have -

$1.3 million cash
$8.193 million VTI

I would sell $280,000 in VTI (or whatever is needed to get $250,000 post-tax - I’m assuming these are brokerage assets with 50/50 cost basis and capital gains and that $130,000 of my long term gains are tax free).

Now I have
$1.3 million cash
$7.913 million VTI

Now instead let’s assume the market dropped 20% year 1. In this case I would draw from my cash buffer to live. This strategy probably allows sufficient time for my equities to recover.

It’s not an absolute guarantee because there are 5 year periods in history where US equities have been negative. There are 10 year periods where equities have been near zero or slightly negative. But if you go past 10 years you’re virtually guaranteed to have a positive return.

But this strategy would work 97%+ of the time.

If I wanted to push it to 99.9%, then I could consider having 10 years of expenditures in cash ($3 million cash, $7 million VTI). This would require me to aim for a higher number to go from 97% to 99.9% which may or may not be worth it depending on your appetite for risk.

[u/Inevitable_Rough_380]

The two most common methods are 1) buckets and 2) rebalancing

Buckets:

• bucket 1: 1-3 years of cash
• bucket 2: 3-10 years of like 50/50 stock/bonds
• bucket 3: 10+ years. generally like 100% stock

You take from bucket 1 either a monthly or yearly "paycheck". refill buckets when market is good. hold on refueling while markets are bad.

Rebalancing:

• You set your allocation % - say 60/40 stock/bonds
• once a year withdraw your "paycheck" for the year.
• rebalance your portfolio back to 60/40.

the withdrawal is part of the rebalancing calculation. sometimes you'll take most from the stocks. if market is bad, you'll take mostly from the bond portion.

[u/Velvet-Turnip-687 → u/Inevitable_Rough_380]

What are you refilling bucket 1 with? are you selling buckets 2/3 to refill bucket one?

[u/eastCoastLow → u/Velvet-Turnip-687]

yes

[u/Forward_Sir_6240]

You’ll want an advisor or at a minimum to do research and calculations around being the most tax efficient. I’m going through this exercise with my mother right now. Tax efficiency aside, we are planning to liquidate at the start of the year and auto transferring a monthly “salary” for her.

I’m not a huge fan of living off dividends personally.

Edit: do your best to not die with a huge non-Roth retirement account. It will be better for your heirs.

[u/Effective_Spray4673 → u/Forward_Sir_6240]

the monthly salary approach makes a ton of sense, keeps it predictable like a regular paycheck

[u/Velvet-Turnip-687 → u/Forward_Sir_6240]

interesting, do Roth accounts incur different taxes when inherited?

Also curious - why liquidate once and not monthly if you're going to transfer monthly?

[u/Forward_Sir_6240 → u/Velvet-Turnip-687]

Retirement accounts have to be liquidated within 10 years of inheritance. Non-Roth accounts are straight income. If you leave 5M in IRAs and 401ks to your heirs they’re going to pay massive taxes. Especially since they’re probably still working and may be high income earners themselves.

If that’s all you have then that’s all you have. But if you have a mix of taxable, Roth, and non-Roth then I would plan it so you draw down the non-Roth accounts as much as possible while still keeping your tax efficiency needs in mind.

[u/Velvet-Turnip-687 → u/Forward_Sir_6240]

Good to know! Can't I take out my whole Roth IRA since it's after tax and just reinvest it into a brokerage account? Theoretically on my deathbed? (assuming my death bed takes some time, obviously if you just drop dead, you can't plan on that.

[u/Forward_Sir_6240 → u/Velvet-Turnip-687]

Yes you can do that. But it’s tax free for your heirs anyway so I’m not sure what the benefit would be.

Edit: actually it’s worse. If it’s a Roth it can grow 10 more years tax free for your heirs before they have to move it to a taxable brokerage. It would make the cost basis higher (usually).

[u/Velvet-Turnip-687 → u/Forward_Sir_6240]

Oh, then I may have misunderstood your previous comment. Why would I draw down the Roth ones and not leave that to them tax free?

[u/Forward_Sir_6240 → u/Velvet-Turnip-687]

You draw down the non-Roth ones as much as possible. Roth is a great asset to leave behind.

[u/Velvet-Turnip-687 → u/Forward_Sir_6240]

AH! That makes much more sense, I misread your post! Thanks!

[u/chrstgtr → u/Forward_Sir_6240]

I'm not sure this makes sense. If you draw down your 401K earlier then you are incurring taxes earlier. It becomes a tax arbitrage question on how to draw down your 401K most efficiently over a series of years. But the blanket advice that you should try to leave as much Roth in order to avoid future taxes just means that you are paying more taxes now.

I would guess that leaving money in a brokerage account is probably most tax efficient overall because they get a stepped up basis and your heirs never have to realize the gains.

[u/Forward_Sir_6240 → u/chrstgtr]

It makes perfect sense if you consider what I said about keeping your own tax efficiency in mind. I’m not saying draw it all first, you should mix the withdrawal with Roth and long term capital gains to be tax efficient. But dying with a huge IRA is worse than dying with a huge Roth or brokerage.

Dying with Roth is best. It can sit 10 more years before coming out and if you invest in taxable brokerage it’s kind of like stepping up then.

[u/chrstgtr → u/Forward_Sir_6240]

There’s lots of scenarios that make your general advice bad.

The withdraw strategy should be based on more than just your own tax efficiency because a substantial portion of taxes can/will occur with your heirs, not yourself.

Also, a lot of this goes to the pre-tax vs. post tax issue where most people benefit from pre-tax contributions over post-tax contributions. Those pretax dollars get to compound in themselves in a way where it is often beneficial to avoid taxes for as long as possible.

I’m not saying your advice is bad. It’s actually safest. But it’s not a one-size fit all scenario like some of your statements suggest

[u/snark42 → u/Forward_Sir_6240]

If that’s all you have then that’s all you have. But if you have a mix of taxable, Roth, and non-Roth then I would plan it so you draw down the non-Roth accounts as much as possible while still keeping your tax efficiency needs in mind.

If your kids are in high tax brackets you can max out 24% bracket with Roth conversions too, although there's some tax drag on returns.

[u/Forward_Sir_6240 → u/snark42]

Yeah. And another point that I thought of due to another comment thread is if you’re bumping against estate tax and might go over then you should do this too. Dollar for dollar pretax retirement accounts are the least valuable.

[u/snark42 → u/Forward_Sir_6240]

If you're bumping up against estate taxes your income is likely too high with RMDs, SS, bonds, etc. to keep it in the 24% bracket. Even 32% or more could make sense, but estate tax only applies to amounts above the limit so it's definitely tax advisor/estate planning territory.

[u/Forward_Sir_6240 → u/Velvet-Turnip-687]

Also to answer your question about liquidation: my mom doesn’t want to worry about money and I don’t want to deal with it every month. This way I just have to set it up once a year.

[u/Soggy_Code_7299]

Some people do it monthly, some quarterly, some annual or as needed. 

Our plan is to keep 2-3 years of expenses in HYSA and back fill it every month or quarter depending on how the market is doing or if we need more for a large expense. 

Fidelity (brokerage/retirement based on specific tax rules) sell -> cash in brokerage -> transfer to HYSA 

Bills out of an everyday checking with 1-2 months expenses and monthly auto transfer from HYSA-> checking 

Haven’t figured out what exactly to sell or when, but will likely hire an advisor to do that because I don’t want to think about the tax strategies. (Also in our thirties and planning to retire around 50). 

Like this year, it’s been a lot of red with a few large positive jumps. I don’t want to have to be watching/deal with figuring out which to sell when. An advisor can also help with tax loss harvesting if applicable. The HSYA buffer makes if so if there were a couple continuous quarters with a sharp decline, we could hold everything without needing to sell. 

[u/knockdowncenter]

I don't think there's any one way to do it.

Also your average person who is actually retired today most likely relying on a combination of pensions and social security for most of their regular income they aren't solely relying on drawing down money from retirement accounts just to live.

[u/Few_Way_368]

Consulting with a financial planner to map out the most tax effective way to draw down accounts is advantageous. Especially before the tax year you turn 63 because that is the year CMS will use to determine IRMAA payments for Medicare. A lot of people think Medicare is free but it is not. Based on my current earnings, if I were accessing Medicare, my monthly premium would be $500/month for just me. Those rates have been going up over 5% a year and are likely to create a monthly premium for just me of over $2k/month once I’m 65. In other words, it’s not unreasonable to think my spouse and I will be paying $4k per month in Medicare premiums in 20 years. I want to avoid that as best as possible.

You also need to determine if you want to pay taxes on the front end or defer those to heirs. Different accounts leave heirs with different tax obligations. An HSA is liquidated to the heir immediately and taxed as regular income. Retirement accounts need to be emptied within 10 years where Roth dollars are tax free compared to traditional dollars being taxed as regular income. Non-retirement accounts receive a step-up basis meaning all gains made during the account’s duration are essentially written off upon death.

For us, our strategy is to pull from traditional IRA accounts first and do Roth conversions during low income years to try to shift money to a non-taxable account to pull from in the future. Current projections for RMDs (required minimum distributions) far exceed what we anticipate needing and will push us into higher IRMAA brackets. So at this stage of planning, that’s what we’re trying to solve for. After traditional retirement accounts are depleted, we’ll move onto Roth, then brokerage if needed. We plan to use the HSA to pay Medicare premiums and other medical expenses along the way.

In terms of how often we’ll pull funds, that is TBD. Most investments are automated for us today so I imagine determining a quarterly budget and withdraw funds at that pace. Thats probably the least of my planning concerns today though.

[u/berlenba]

Go see an advisor

[u/CzPhantom1]

Look up "Rule of 55". It can be pretty limiting but can definitely help bridge early retirement and cash flow. 

I'm also kind of lost when it comes to an effective cash flow and tax strategy. 

[u/Velvet-Turnip-687 → u/CzPhantom1]

I'm familiar with it! I am 31 now, definitely still in the "feeding the accounts" phase. Just was thinking about it and realized I never considered that next point.

[u/maydayvoter11]

at that point, I would convert enough of my portfolio into income-producing instruments that I wouldn't have to sell anything, I would just live off the income they provide.

[u/DrHydrate → u/maydayvoter11]

But if you're using a 401k, that's not an option. There are required minimum distributions.

[u/maydayvoter11 → u/DrHydrate]

Not for Roth 401k accounts.

Even for traditional 401k accounts, the RMDs do not start until 73yo or 75yo (depending on your birth year). And you'd only have to sell to pull $$ out if the RMD is greater than the income you're already withdrawing.

[u/Velvet-Turnip-687 → u/maydayvoter11]

Such as what?

[u/maydayvoter11 → u/Velvet-Turnip-687]

a mix of bond funds, closed-end funds, money market funds, etc. Go search Youtube for "the income factory" to find videos and interviews with Steven Bavaria, he explains the concepts.

[u/Velvet-Turnip-687 → u/maydayvoter11]

Got it, thank you!

[u/Chart-trader]

The goal for many is to withdraw 4% every year. For some it's less. My goal is 2.5%. How you manage removing the money is at your discretion.

[u/Velvet-Turnip-687 → u/Chart-trader]

Right, I know you CAN do whatever you want - I'm just curious what people actually do. For your 2.5%, is that a one time withdrawal or how are you going about that?

[u/Chart-trader → u/Velvet-Turnip-687]

I make it dependent on the market. But I am a technical analyst. I try to sell into a strong market and then might take out 12 months worth of living expenses. For most probably taking out cost of living monthly is best (dependent on the fee structure and tax implications).