6 Steps for Drawing Down Retirement Funds

This withdrawal strategy should be plotted with great care.

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Dan Gerbase was always an optimist—until the financial markets started flailing. "This is the first time since I retired 13 years ago that I'm very concerned about the future," says Gerbase, 76, a retired food wholesaler and retailer in Venice, Fla.

Gerbase and his wife, Marion, 75, rely solely on their investments and Social Security. Until now, tapping those sources has allowed for summer vacations on Long Island and dinners out. "Now, we're just trying to hunker down," he says.

Drawing down retirement savings requires careful planning in the best of times, and a chaotic bear market just adds to the challenge. It requires a cool head and a disciplined approach to spending, cash flow, and asset allocation.

To calm their nerves, the Gerbases have moved a small portion of their assets from equities into more conservative, fixed-income investments. More important, they're scaling back, paring the amount they withdraw from their portfolio. "We could live well into our 90s," Gerbase says, "and I always felt we would have enough assets to not have any financial problems at that age, but now, I'm not so sure."

Not sure either? Here are six withdrawal strategies to safeguard your nest egg.

1. Set a realistic withdrawal amount. An alarming 43 percent of preretirees believe they can withdraw 10 percent or more a year from their savings while still preserving their principal, says the MetLife Mature Market Institute.

That's unrealistic. Financial advisers hotly debate how much you can safely tap every year without running dry, but the bottom line is your investments may need to support you for more than 30 years. Today's healthier retirees shell out money for travel and other pursuits, so chances are your spending won't drop as much as you might have planned. Plus, rising medical costs gouge budgets.

That calls for flexible planning of withdrawals. "A good benchmark...is 4 percent to 5 percent in real dollars," says Harold Evensky, a financial planner at Evensky & Katz in Coral Gables, Fla. So, if your portfolio totals $1 million, your first-year withdrawal would be $40,000 to $50,000. Then, figure in a 3 percent increase each year that follows to adjust for inflation. In today's shaky market, if you can get by on, say, 2 percent, it's worth a try. Or you can forgo the inflation adjustment. Part-time work can help bridge any gap.

"I tell my clients what keeps me awake at night is not that you are going to die, it's that you are going to live," Evensky says. "The consequences of not planning for it are catastrophic." But, he cautions, "no withdrawal strategy can guarantee protection for investors requiring income for life."

2. Carve out a cash cushion. Set aside from two to five years of living costs in a cash flow reserve account, Evensky advises, invested in high-quality money market accounts, highly rated, short-term municipal bonds, and intermediate-term bonds. Write yourself a monthly check from these funds and deposit it in your checking account. The goal is to not have to sell stocks at a significant loss in a down market. "You want to know that the funds for your next meal are safe, sound, and available," Evensky says.

New retirees who lack cash reserves are the most vulnerable. It's tough to recoup losses if you begin to tap stock investments as they dive downward. Try to delay dipping into equity accounts. If you do, you should be able to weather the off years of the stock market and ultimately top the returns that bonds provide. Since 1926, bonds have produced an average annual return of just 2 percent above inflation, according to Morningstar. If you do need to tap your stocks, spread your sales over as many months as possible.

3. Balance your asset mix. Cash reserves can protect you from stock market volatility, says J. Michael Martin, a financial planner and president of Financial Advantage in Columbia, Md. But today's bear market has no doubt left your portfolio's mix of stocks and bonds seriously out of whack—offering a chance to rebalance, Martin says. Asset allocation will vary significantly from retiree to retiree, depending on their risk tolerance. Money managers disagree on precise allocations, but they do agree that most retirees should not abandon stocks.