Withdrawal Clarification
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How do you adjust an annual withdrawal from assets for inflation?
In the November 10, 2008 report (How Much Should You Withdraw?), Certified Financial Planner Lane Jones mentions that a "withdrawal rate of about 4% on an inflation-adjusted basis" is generally regarded as sustainable.
The question is...How do you go about applying the inflation adjustment -- also known as or COLA (Cost of Living Adjustment)?
We asked Michele Gambera, Chief Economist of Ibbotson Associates, a division of Morningstar. He provided this explanation:
"It means that you retire with $1 million in the bank and you can take out 4% of that,
namely, $40,000, for the first year of retirement. The following year you should withdraw
$40,000 plus a COLA adjustment, so that if inflation in the first year is 3%, the COLA for
the second year will be 3% of 40K, or $1,200, so your total sustainable withdrawal will be
$41,200 for the second year. If inflation is 1% in the second year, your COLA for the third
year will be 1% of $41,200, or $412, and your third-year withdrawal should be $41,612.
And so on..."
