Withdrawal Plan: How to Structure Regular Withdrawals from Your Portfolio

Building wealth and drawing it down are two very different challenges. A withdrawal plan sets out how accumulated assets can be used to fund regular withdrawals over a defined period. The question is not simply how much to withdraw. Just as important is how the underlying portfolio should be structured so that withdrawals, investment risk and long-term purchasing power remain aligned.

Moving from the accumulation phase into the withdrawal, or decumulation, phase changes the starting point. During accumulation, investors can continue to add new capital to their portfolio. During decumulation, by contrast, regular cash flows have to be funded from existing assets. Market fluctuations can therefore have a different impact.

A withdrawal plan brings together the required level of withdrawals, the investment horizon, personal risk tolerance, portfolio structure and the way in which withdrawals are made. The key is to strike an appropriate balance. Significant market losses during the withdrawal phase can put pressure on a portfolio. At the same time, insufficient long-term returns can allow inflation to erode the real value of both the remaining assets and future withdrawals.

A withdrawal plan defines how accumulated assets are to be used to fund regular ongoing expenses. It covers not only the amount and frequency of withdrawals, but also the period over which the assets are expected to be needed, the structure of the underlying portfolio and any rules for adjusting withdrawals over time.

The period during which an investor regularly draws on accumulated wealth is known as the withdrawal or decumulation phase. It differs fundamentally from the accumulation phase. Investors who are still building wealth can, for example, continue investing during a market downturn. Investors who are already relying on their portfolio for income may instead have to withdraw money precisely when markets are falling.

A withdrawal plan should therefore not focus solely on the question: "How much can I withdraw on a regular basis?" At least as important are the questions: How long will I need the assets to last? How reliant am I on portfolio withdrawals? And how much investment risk can I take over that period?

This combination of time horizon and individual circumstances is crucial. An investor who depends heavily on regular withdrawals and has little flexibility to adjust spending may have a different risk tolerance from someone with additional sources of income and greater financial flexibility.

A withdrawal plan should not begin with a rule-of-thumb withdrawal rate. The first step is to determine how much money actually needs to come from the portfolio and how predictable that requirement is.

Start by looking at regular expenditure and comparing it with other sources of income, such as state or occupational pension income. The difference represents the income shortfall that needs to be funded from accumulated assets.

The next consideration is the time horizon. Does the portfolio only need to finance additional spending for a limited period, or will it be required to provide regular withdrawals for many years? The answer also affects how much market volatility may be acceptable.

The flexibility of spending is equally important. Some expenses have to be met regardless of market conditions, while others can be reduced or postponed. The more dependent an investor is on portfolio withdrawals, and the less flexible their spending needs are, the more important personal risk tolerance becomes when structuring the withdrawal plan.

Only once spending requirements, other sources of income, the investment horizon and risk tolerance are understood is it possible to assess which withdrawal strategy and portfolio structure may be appropriate.

There are a number of different strategies and approaches for drawing down assets. They vary in how withdrawals are determined, how flexibly they respond to changes in portfolio value and how the portfolio is structured during the withdrawal phase. Not every approach represents a specific withdrawal rule in itself.

• The 4% rule

  The 4% rule is one of the best-known systematic retirement withdrawal strategies. At the beginning of the withdrawal phase, an initial withdrawal is determined based on the value of the available assets. The resulting amount is then generally adjusted for inflation in subsequent years.

  The aim is to provide a relatively predictable level of withdrawals. Whether such an approach is sustainable in practice depends on a number of factors, including the withdrawal horizon, portfolio performance, inflation and the sequence of positive and negative market years. The strategy cannot guarantee that assets will last for a specific period.

• Guardrails strategy

  A guardrails strategy establishes predefined thresholds that determine when and how withdrawals may be adjusted.

  If the portfolio develops significantly differently from expectations or certain thresholds are reached, withdrawals can be increased or reduced according to predefined rules. This allows the strategy to respond to changes in portfolio value without linking withdrawals entirely to the portfolio's current market value.

• Bucket strategy

  The bucket strategy is less a rule for determining the amount of a withdrawal and more an approach to structuring a portfolio. Assets or future spending requirements are allocated to different time horizons.

  Assets intended to fund near-term expenses can therefore be structured differently from assets that will not be needed for many years. The approach directly links future spending requirements with portfolio structure.

• Die with Zero

  Die with Zero is not a traditional withdrawal strategy based on a fixed calculation rule. Instead, it focuses on how wealth should be used over an investor's lifetime and on the degree of capital depletion or remaining estate that is deliberately targeted.

  The approach therefore broadens the question "How long will my assets last?" to include a more personal consideration: how much wealth should ultimately be preserved at all?

When withdrawing from a portfolio, long-term average returns are not the only factor that matters. The timing of gains and losses can be equally important.

If markets fall sharply at the beginning of the withdrawal phase while money is being withdrawn at the same time, assets may have to be sold from a portfolio that has already declined in value. This leaves less capital available to participate in a subsequent market recovery. This effect is known as sequence-of-returns risk.

That does not mean, however, that a withdrawal portfolio should automatically be designed to minimise volatility as far as possible. The other side of the equation also needs to be considered. An overly defensive portfolio may offer limited long-term return potential, while inflation can steadily reduce the real purchasing power of both the portfolio and future withdrawals.

This creates a central trade-off in withdrawal planning. A portfolio needs to take market volatility into account while still offering sufficient long-term return potential to help counter the erosion of purchasing power.

Other risks also need to be considered. A long withdrawal period places different demands on a portfolio from a short one. Very high or completely inflexible withdrawals can put greater pressure on available assets. The extent to which an investor depends on these withdrawals also affects how much volatility may be acceptable.

A withdrawal plan should therefore not consider these factors in isolation. Withdrawal horizon, risk tolerance, inflation, portfolio risk and required cash flows are closely interconnected.

Once the required amount and the withdrawal strategy have been defined, there is a practical question to answer: How is cash actually generated from the portfolio?

One option is to sell fund units or other securities on a regular basis. Another is to use distributions from an investment fund to fund ongoing withdrawals.

It is important to understand that a distribution does not automatically create additional investment return. The distributed amount is transferred from the fund's assets to investors. Any assessment of the overall investment therefore needs to consider both the distribution received and the value of the remaining investment.

A distributing share class pays amounts out to investors. In an accumulating share class, income generally remains invested within the fund. Regular withdrawals can nevertheless also be generated from an accumulating investment by selling or redeeming the appropriate number of units.

The article Distributing or accumulating? explains the differences between the two approaches in more detail.

Funds with monthly distributions can provide a way of generating regular cash flows within a withdrawal plan. Appropriate share classes can make distributions at regular monthly intervals, allowing cash flows to be aligned more closely with recurring monthly spending needs.

A monthly distribution is not, however, a withdrawal strategy in its own right and does not by itself say anything about the quality of an investment. What matters is how the underlying portfolio develops, which risks it is exposed to and how the real purchasing power of the distributions changes over time.

For more information, see our article on monthly fund distributions.

A withdrawal plan should not focus solely on the rules governing withdrawals. The underlying portfolio also needs to be appropriate for the planned decumulation strategy.

Two competing considerations come into play:

• Significant market losses can be particularly challenging when money needs to be withdrawn from the portfolio at the same time.
• An overly defensive portfolio may lose purchasing power over the long term as a result of inflation and insufficient real returns.

The central challenge is therefore to find a balance that reflects the investor's individual circumstances, including market risk, long-term return potential, liquidity, purchasing-power preservation and the expected withdrawal horizon.

Equities can provide long-term return potential but may also experience significant fluctuations in value. Bonds and liquid assets can perform different functions within a portfolio. Balanced funds and multi-asset strategies combine different asset classes and can likewise form part of a broader portfolio structure.

Diversification across different types of investments can therefore be relevant from both a risk and a return perspective.

There is, however, no universally appropriate asset allocation. Which asset classes and levels of risk are suitable depends on the withdrawal horizon, the amount of income required, other available sources of income and the investor's personal risk tolerance.

A withdrawal plan can be developed step by step. The key is to start with the investor's actual cash-flow requirements and only then determine how the withdrawal strategy and portfolio should be structured.

1. Determine ongoing spending needs.
Start by identifying the regular expenses that need to be funded.

2. Account for other sources of income.
Pension payments and other income reduce the amount that needs to come from the portfolio.

3. Calculate the income shortfall.
The difference between expenditure and other sources of income determines the amount that needs to be funded through portfolio withdrawals.

4. Define the withdrawal horizon.
Determine the period over which the assets are expected to be required.

5. Assess reliance on withdrawals and risk tolerance.
The more heavily an investor depends on portfolio withdrawals, the more important it becomes to understand how much market volatility can realistically be tolerated.

6. Choose a withdrawal strategy.
Fixed, variable and rules-based withdrawal approaches differ primarily in terms of predictability and flexibility.

7. Align the portfolio and withdrawal mechanism.
The structure of the portfolio should reflect the investment horizon, risk tolerance and planned withdrawals.

8. Review the withdrawal plan regularly.
Spending requirements, market conditions and personal circumstances can change. The plan should therefore be reviewed and adjusted when necessary.

A withdrawal plan is therefore much more than an automated transfer from an investment account. It connects the question of how much money is required with the question of how the remaining assets should be structured.

• Monthly fund distributions

  Monthly distributions can provide regular cash flows during the withdrawal phase. The development of the remaining assets, inflation and investment risk remain equally important considerations.

  Monthly fund distributions

   

• Distributing or accumulating?

  What does a distribution mean for fund assets, and how do distributing and accumulating share classes differ?

  Distributing or accumulating?

A withdrawal plan does more than determine how much money is withdrawn on a regular basis. It connects an investor's spending requirements with available assets, the planned investment horizon, personal risk tolerance, inflation and the chosen withdrawal strategy.

The structure of the underlying portfolio is particularly important. A highly growth-oriented portfolio can be exposed to substantial fluctuations during the withdrawal phase. A very defensive allocation, on the other hand, may face challenges in preserving purchasing power over the long term. The appropriate balance therefore depends on the investor's individual circumstances.

There is no single withdrawal strategy that is optimal for every investor. What matters is how long the assets need to last, how predictable withdrawals need to be, how much flexibility there is to adjust spending and how much investment risk the investor can tolerate.

A well-designed withdrawal plan therefore answers not only the question "How much do I want to withdraw?" but also: "How should my assets be structured so that my planned withdrawals are aligned with my time horizon and risk tolerance?"