TITLE

The Effect of Emergencies on Retirement Savings and Withdrawals

AUTHOR(S)
Pye, Gordon B.
PUB. DATE
November 2010
SOURCE
Journal of Financial Planning;Nov2010, Vol. 23 Issue 11, p57
SOURCE TYPE
Academic Journal
DOC. TYPE
Article
ABSTRACT
The sustainability of investment withdrawals in retirement has been studied with respect to uncertainty about investment returns. These studies, however have not considered uncertainty about the expenditures that may be required during retirement to cover necessary living expenses. This paper explicitly considers the risk that large extra withdrawals may be required for emergencies. These very large extra expenses might not even be on the radar screen at the beginning of retirement. Specifically, this paper assumes that no emergencies may arise over a retirement, but that there is also a chance of one, two, or even more. And they may occur at any time. It also assumes that any outlay for an emergency may be limited by the funds that will remain to cover future living expenses at the time the emergency occurs. The uncertainty about emergencies in this paper is integrated with the uncertainty about investment returns.This integration increases the realism of evaluating the effect of these risks on the success of a plan instead of simply assuming a given large extra withdrawal occurs at a given time as can be done with existing software. Also, in determining the success of a plan, existing software unrealistically ignores the changes that will occur in a plan as uncertainties are resolved over time about investment returns and expenses. Simulations illustrated in this paper consider future changes as retirees adapt to what actually happens in the future by using the Retrenchment Rule. This paper shows that after allowing for a reasonable risk for emergencies that only close to 3 percent can be withdrawn initially to provide the same sustainability as a 4 percent withdrawal. Significantly more savings are required to sustain a given standard of living.
ACCESSION #
55414508

 

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