Saving for your retirement from Equity Residential isn't always easy, but using your retirement savings wisely can be just as challenging. How much of your savings can you withdraw each year? This is an important question we often receive from many of our Equity Residential clients, and understandably so — withdraw too much and you run the risk of running out of money, but withdraw too little and you may miss out on a comfortable retirement from Equity Residential.
For more than 25 years, the most common guideline has been a rule known as the '4% rule.' This rule suggests that a withdrawal equal to 4% of the initial portfolio value, with annual increases for inflation, is sustainable over a 30-year retirement. This guideline can be helpful for Equity Residential employees in projecting a savings goal and providing a realistic picture of the annual income that their savings might provide. For example, a $1 million portfolio could provide $40,000 of income in the first year with inflation-adjusted withdrawals in succeeding years.
The 4% rule has stimulated a great deal of discussion over the years, with some experts saying 4% is too low and others saying it's too high. Due to the speculation, we find it important for us to analyze both the original and recent research regarding the 4% rule with our clients from Equity Residential. The most recent analysis happens to come from the man who invented it, financial professional William Bengen, who believes the rule has been misunderstood and offers new insights based on new research. Let's see if he's right.
Original research
Bengen first published his findings in 1994, based on analyzing data for retirements from the years 1926 to 1976 — that's 50 years of data. He considered a hypothetical, conservative portfolio comprising 50% large-cap stocks and 50% intermediate-term Treasury bonds held in a tax-advantaged account and rebalanced annually. A 4% inflation-adjusted withdrawal was the highest sustainable rate in the worst-case scenario — retirement in October 1968. This was the beginning of a bear market and a long period of high inflation. All other retirement years had higher sustainable rates, some as high as 10% or more.[1]
Of course, no one can predict the future, which is why Bengen suggested the worst-case scenario as a sustainable rate. He later adjusted it slightly upward to 4.5%, based on a more diverse portfolio comprising 30% large-cap stocks, 20% small-cap stocks, and 50% intermediate-term Treasuries.[2]
New research
Now that we have an understanding of Bengen's original research, we'd like to take a look at a more recent analysis with our clients from Equity Residential. In October 2020, Bengen published new research that attempts to project a sustainable withdrawal rate based on two key factors at the time of retirement: stock market valuation and inflation (annual change in the Consumer Price Index). In theory, when the market is expensive, it has less potential to grow, and sustaining increased withdrawals over time may be more difficult. On the other hand, lower inflation means lower inflation-adjusted withdrawals, allowing a higher initial rate. For example, a $40,000 first-year withdrawal becomes an $84,000 withdrawal after 20 years with a 4% annual inflation increase but just $58,000 with a 2% increase.
To measure market valuation, Bengen used the Shiller CAPE, the cyclically adjusted price-earnings ratio for the S&P 500 index developed by Nobel laureate Robert Shiller. The price-earnings (P/E) ratio of a stock is the share price divided by its earnings per share for the previous 12 months. For example, if a stock is priced at $100 and the earnings per share is $4, the P/E ratio would be 25. The Shiller CAPE divides the total share price of stocks in the S&P 500 index by average inflation-adjusted earnings over 10 years.
5% rule?
Bengen once again used historical data, this time, for over 60 years of retirement. Analyzing retirement dates from 1926 to 1990, Bengen found a clear correlation between market valuation and inflation at the time of retirement and the maximum sustainable withdrawal rate. Historically, rates ranged from as low as 4.5% to as high as 13%, but the scenarios that supported high rates were unusual, with very low market valuations and/or deflation rather than inflation.[3]
For the majority of the last 25 years, the United States has experienced high market valuations, and inflation has been low since the Great Recession.[4-5] In a high-valuation, low-inflation scenario at the time of retirement, Bengen found that a 5% initial withdrawal rate was sustainable over 30 years.[6] While not a big difference from the 4% rule, this suggests retirees could make larger initial withdrawals, particularly in a low-inflation environment. But in a high inflation environment withdrawals should decrease.
One caveat is that current market valuation is extremely high: The S&P 500 index had a CAPE of 34.19 at the end of 2020, a level only reached (and exceeded) during the late-1990s dot-com boom and higher than any of the scenarios in Bengen's research.[7] His range for a 5% withdrawal rate is a CAPE of 23 or higher, with inflation between 0% and 2.5%.[8] (Inflation was 1.2% in November 2020.)[9] Bengen's research suggests that if market valuation drops near the historical mean of 16.77, a withdrawal rate of 6% might be sustainable as long as inflation is 5% or lower. On the other hand, if valuation remains high and inflation surpasses 2.5%, the maximum sustainable rate might be 4.5%.[10]
It's important for Equity Residential employees to keep in mind that these projections are based on historical scenarios and a hypothetical portfolio, and there is no guarantee that your portfolio will perform in a similar manner. Also remember that these calculations are based on annual inflation-adjusted withdrawals, and you might choose not to increase withdrawals in some years or use other criteria to make adjustments, such as market performance.
Although there is no assurance that working with a financial professional will improve investment results, a professional can evaluate your objectives and available resources and help you consider appropriate long-term financial strategies, including your withdrawal strategy.
We'd like to remind our clients from Equity Residential that all investments are subject to market fluctuation, risk, and loss of principal. When sold, investments may be worth more or less than their original cost. U.S. Treasury securities are guaranteed by the federal government as to the timely payment of principal and interest. The principal value of Treasury securities fluctuates with market conditions. If not held to maturity, they could be worth more or less than the original amount paid. Asset allocation and diversification are methods used to help manage investment risk; they do not guarantee a profit or protect against investment loss. Rebalancing involves selling some investments in order to buy others; selling investments in a taxable account could result in a tax liability.
The S&P 500 index is an unmanaged group of securities considered representative of the U.S. stock market in general. The performance of an unmanaged index is not indicative of the performance of any specific investment. Individuals cannot invest directly in an index. Past performance is no guarantee of future results. Actual results will vary.
1-2) Forbes Advisor, October 12, 2020
3-4, 6, 8, 10) Financial Advisor, October 2020
5, 9) U.S. Bureau of Labor Statistics, 2020
7) multpl.com, December 31, 2020
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Flps Must Comply With State Law and IRS Requirements
An FLP is subject to more restrictive rules than other forms of business entities. Care must be taken to create a valid FLP in the eyes of the state and the IRS. An FLP will be recognized only if it is formed for a valid business purpose. The FLP form will be disregarded if the IRS or the state finds that it was formed solely to avoid taxes.
Some specific purposes for creating an FLP include:
- To adopt a family succession plan
- To simplify annual gifting by the senior generation
- To minimize income, gift, and estate taxes
- To protect assets from potential creditors
- To protect assets from waste by heirs
- To consolidate assets into a single entity
- To keep the business in the family
- To decrease estate and probate costs
Additionally, an FLP may own a closely held business (other than a corporation that has made an election to be taxed as an 'S' corporation), real estate, marketable securities, or almost any other investment asset. Homes, cottages, or other personal use assets are normally not suitable for an FLP.
Tips For Forming And Maintaining A Valid FLP:
- Have one or more substantial nontax purposes for creating the FLP, such as asset protection
- Keep good records
- Create the FLP while you're still in good health
- Observe all legal formalities when creating the FLP and while operating the business
- Hire an independent appraiser to value assets going into the FLP
- Transfer legal title of assets going into the FLP
- Put only business assets into the FLP — don't put any personal assets into the FLP
- If you do put personal assets into the FLP, such as your home, pay fair market rent for their use
- Don't commingle FLP assets and personal assets — keep them separate
- Never use FLP assets for personal purposes
- Keep enough assets outside the FLP to pay for personal expenses
- Distribute income to partners pro rata
What are the eligibility requirements for employees to participate in the Equity-League Pension Plan, and how can they ensure compliance with these requirements to maximize their potential benefits during retirement?
Eligibility for the Equity-League Pension Plan: Employees become eligible to participate in the Pension Plan by working at least two weeks in covered employment during a 12-month period. To maximize benefits, employees should ensure they continue working in covered employment to accumulate Years of Vesting Service (YVS), which solidifies their entitlement to benefits even if they leave the industry(Equity-League_Pension_T…).
How do the contribution limits for the Equity-League 401(k) Plan compare to traditional IRAs, and what strategies can employees deploy to make the most of their contribution options as they approach retirement?
Contribution Limits Comparison: The Equity-League 401(k) Plan has higher contribution limits compared to traditional IRAs. Employees can contribute up to $19,000 annually (or $25,000 if over 50), while traditional IRAs are capped at $6,000 (or $7,000 for those over 50). By taking full advantage of catch-up contributions as they near retirement, employees can significantly boost their retirement savings(Equity-League_Pension_T…).
What approaches can participants in the Equity-League Pension Plan take to effectively manage their individual accounts, and how can they adjust their investment strategies based on changes in their employment status or retirement goals?
Managing Individual Accounts in the Pension Plan: Participants in the Equity-League 401(k) Plan can manage their accounts by selecting from various investment options, including age-based and equity funds. Adjusting investments based on career changes or retirement goals can help employees align their portfolios with their risk tolerance and retirement timeline(Equity-League_Pension_T…).
In what ways can employees of the Equity-League Pension Plan benefit from understanding the vesting schedule, and how can this knowledge impact their overall retirement planning and decision-making process?
Vesting Schedule: Understanding the vesting schedule is crucial for employees. Employees become vested by accumulating five YVS or by satisfying other vesting tests, such as the 25-year test. Once vested, employees secure their pension benefits, regardless of future employment changes(Equity-League_Pension_T…).
What are the tax implications for participants in the Equity-League Pension Trust Fund when taking distributions from their retirement accounts, and how can they optimize their withdrawals to minimize tax liabilities?
Tax Implications for Distributions: When taking distributions from their retirement accounts, employees may face a 10% penalty if withdrawals are made before age 59½. However, rolling over distributions into IRAs can help defer taxes. Employees should consult tax professionals to optimize withdrawals and minimize tax liabilities(Equity-League_Pension_T…)(Equity-League_Pension_T…).
How can employees ensure that their beneficiary designations are current within the Equity-League Pension Plan, and what steps should they take in the event of a life change, such as marriage or divorce, to protect their intended beneficiaries?
Beneficiary Designations: It’s important for employees to keep beneficiary designations current. In the event of life changes such as marriage or divorce, updating these designations ensures intended beneficiaries receive the appropriate benefits. Employees can contact the Fund Office to make updates(Equity-League_Pension_T…)(Equity-League_Pension_T…).
What resources are available for employees of the Equity-League Pension Trust Fund to educate themselves about their retirement rights under ERISA, and how can they utilize these resources to advocate for their interests effectively?
ERISA Resources for Employees: Employees are protected under ERISA, which guarantees certain rights regarding their retirement benefits. The Equity-League Pension Trust Fund provides resources such as the Summary Plan Description, and employees can access legal help if they believe their rights have been violated(Equity-League_Pension_T…).
How does the withdrawal process work for employees of the Equity-League Pension Plan, particularly in the context of normal retirement age and circumstances that may lead to early withdrawals?
Withdrawal Process: Employees can take withdrawals as early as age 60, but benefits will be reduced for each year prior to age 65. Early withdrawals may also incur penalties, so employees should consider the long-term financial impact before opting for early retirement(Equity-League_Pension_T…).
Given the significant assets under management in the Equity-League Pension Trust Fund, how do investment choices within the plan impact employees' potential retirement income, and what factors should be considered when selecting these investments?
Investment Choices: Investment options within the 401(k) Plan impact employees' retirement income. With 19 investment choices, including equity and fixed-income investments, participants should select funds that balance growth and risk, keeping in mind the potential long-term returns(Equity-League_Pension_T…).
What is the best way for employees to contact the Equity-League Pension Trust Fund for inquiries about their benefits or the retirement process, and what specific information should they be prepared to provide to facilitate a productive conversation?
Contacting the Fund for Inquiries: Employees can contact the Equity-League Pension Trust Fund by phone, email, or mail. When making inquiries, employees should provide personal details such as their participant ID and questions about specific benefits to ensure efficient assistance(Equity-League_Pension_T…).