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This Week in Your Wallet: February 19, 2013

When it comes to your finances, there can be a lot of rules. By my count, there are 94 that are especially worth following — including live below your means, shop with a list, plan for emergencies and protect the life you’ve built for yourself. You’ve probably heard me say all of these at least once before, and you’ll probably hear me say them all again.

One rule that isn’t in my book but is often discussed by financial advisers is the so-called “4% rule.” The theory essentially states that if you draw down just 4% of your total retirement pool each year (adjusting for inflation as you go), you won’t outlive your money. It’s a strategy many people use to help save for retirement and to help pull the right amount of money out of retirement accounts each year they are not working. But according to new research out of Morningstar, the 4% rule is wrong.

David Blanchett, head retirement research at Morningstar, found that when you consider the current market landscape (bond yields that are lower than their historic averages, investment management fees that can shave percentage points off your portfolio), the 4% rule isn’t so safe — in fact, it only gives you a 48.2% chance of outliving your money. The better, safer drawdown rate? Blanchett says 2.8% — which he knows might be a bit of a shock to anyone counting on drawing down more.

“I think this affects current and near retirees rather than someone who is 25 or 30 years old,” he says. “If you have 20 or 30 years until retirement, things could change. If you’re retiring tomorrow, you don’t really have great options with bonds or stocks.” It’s a bleak sentiment, to be sure, but not one worth panicking over just yet. There are a few things you can do.

For those who are already in retirement, Blanchett says there are two main options: spend less, or adjust your portfolio to take on more risk (by looking at international bonds or commodities, for example). He notes that the latter option can be dangerous, so it’s not the ideal fix — especially for those who are counting on every last penny in their portfolio. For those who are near retirement but haven’t left work just yet, Blanchett recommends this: “Far and away, the most impactful thing that someone can do is to work longer. I know that’s not an option for a lot of people, but working longer is the silver bullet. You have one more year to save, one more year for assets to grow, and it reduces the years of retirement.” He also noted that the longer you’re out of the workforce, the harder it is to get back in — so if you retire at age 62 and wake up at age 75 and realize you want to go back, you’ll have a very hard time doing so.

Blanchett was careful to emphasize that every person is different, and that the 4% rule was created under the concept of a married couple retiring at age 65. “It doesn’t apply to a single widow, age 80. It’s just a general starting point. While it’s a good staring point, the actual number for you should be based on your circumstances.”

I completely agree with him, and will tell you that if you’re concerned about how much you’re saving, or how much you’re supposed to draw down during each year of retirement, your best course of action is to (calmly) think about your needs and to sit down with a financial adviser. Together, you can work out a plan that is right for your needs.

If you’re interested in the nitty gritty details of Blanchett’s study, you can access the full PDF hereAnd now, here are the other headlines for the week:


Caring for an elderly parent

If we’re very very lucky, our parents will be coherent until the very end and the only thing we’ll need to help them with is spoiling their grandchildren.  All too often, however, it doesn’t work that way. The reality is that many of us will be helping our aging parents in some form or another. Some of us might become caretakers, while others might need to take complete control of a parent’s finances. For those in the caretaker category, I wanted to pass along this MarketWatch article about the cost of being a caregiver for an elderly parent. It includes some sobering statistics (like the fact that women who take time off or quit work to be a caregiver can lose over $300,000 in lifetime wages), but it also include some tips for planning for these situations — like how it’s important to have a conversation about caregiving before you actually need to be making caregiving decisions.

For those who might be faced with managing an elderly parent’s finances, I wanted to share this TIME article with youIn it, a writer shares her experience of taking care of her mother’s finances and some of the lessons she learned along the way. My two favorite takeaways? “The power of attorney is like a flaming sword of justice,” and — this might be the most important one of all — “seek help before you need it.”


Five franchises that are expanding quickly

We’ve discussed some serious subject matter in this week’s newsletter, so I wanted to end on a lighter note, with this CNN article on five particularly fast-growing franchises. It’s a fun read, especially if you’ve ever dreamed of starting or opening your own franchise somewhere. (Confession: I’ve always wanted to bring Philadelphia’s Rita’s Water Ice to our southern states. I think Florida could use more Gelati!) Among the businesses featured: a gourmet french fry company (yum), a real-life School of Rock and a mobile arcade. What would you open if you had the chance?

Have a great week!


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