Take your payout. Protect your wealth... potentially.
December 9, 2010 - 6 comments
Retirement income distribution is on the minds of many investors and advisors alike. Various products have been introduced to help aid in the transition from an accumulating portfolio to one of income generation and tax-efficient distribution. A product that has received a number of questions from clients is the RBC Managed Payout Solution, as well as the Enhanced and Enhanced Plus versions of the same fund. It appears that no matter how RBC phrases its marketing message, clients are still under the impression that RBC Managed Payout Solutions are offering a generous 5%, 6%, or even 7% guaranteed income (if only this were true). RBC’s offer is in fact a non-guaranteed monthly payout, with no guarantee whatsoever of investment returns. The actual dollar value of the monthly payouts can fluctuate significantly year-to-year, making any cash flow planning futile. No inflation increases are built into the payout calculation, so unless a client receives very generous market returns, inflation will erode the purchasing power of their monthly payouts.
In RBC’s simplified prospectus, the following investment objective of the funds is included:
“...provide relatively tax efficient distributions...without continuing significant erosion of the net asset value of the fund.”
By examining a hypothetical investment of $100,000 in each of the funds on December 31, 2004, it appears that all of them have experienced erosion of the net asset value of the fund over a 5-year investment horizon, ranging from $8,333 to $18,841 (see graphs below). Although the negative events of this particular period were a key contributor to this net asset value erosion, I couldn’t imagine an aggressive 7% withdrawal rate not adding to the depletion.
In 1997, William P. Bengen published a series of articles in the Journal of Financial Planning titled, “Conserving Client Portfolios During Retirement,” in which he determines a safe maximum withdrawal rate that has historically resulted in a 30-year portfolio longevity, regardless of the year of retirement. Bengen determines this rate to be approximately 4.15% of the original market value for a typical balanced portfolio, increasing with inflation each year. I would be much more comfortable with a product that distributed tax efficient cash flow at this rate, although I admit, its features would not look as appealing on a glossy marketing brochure.