Retirement | May 22, 2020

IRA Withdrawals: It Pays to Wait

Beginning at age 59½, you’re permitted to make penalty-free withdrawals from traditional IRAs and other tax-deferred retirement accounts. But just because you can doesn’t mean you should, especially if you’re not yet retired.

“It’s best to view your retirement savings as sacrosanct—that is, earmarked for retirement above all else,” says Rob Williams, vice president of financial planning and retirement income at the Schwab Center for Financial Research. “Even then, you should avoid tapping tax-deferred accounts until absolutely necessary, since every dollar you withdraw lessens your growth potential and hence how long your nest egg might last.”

That’s especially true of withdrawals made during a market downturn. “If you sell assets at depressed prices in the first few years of retirement—or, worse, before you even reach retirement—you run the risk of never regaining that lost ground,” Rob says (see “Buying time,” below).

Buying time
The portfolio of an investor who was able to wait out a market decline would have lasted two years longer than the portfolio of an investor who was forced to tap his savings during a downturn.

Both investors start out with $1 million, but a market decline causes their portfolios to lose 20% per year at ages 60 and 61. Plus, Investor 2 makes two early withdrawals of $30,000 per year. Both investors then allow their portfolios to grow untouched until age 67, when they take initial annual withdrawals of $50,000, which are adjusted for inflation in subsequent years. Because of his two early withdrawals, Investor 2 starts his 85th year with $27,744 left in his portfolio. Investor 1 has $163,198 left.

This chart is hypothetical and for illustrative purposes only. Neither investor made contributions to his portfolio after age 59, and withdrawals in retirement increased 2% annually for inflation after the first year. Both portfolios declined 20% in value in the first and second years and increased 4.9% annually every year thereafter. Neither portfolio reflects the effects of fees or taxes. Performance is based on Schwab’s moderate hypothetical portfolio.

That said, taking early withdrawals may be necessary if you’re facing financial hardship and have exhausted all other options. “Emergencies are by their nature unpredictable,” Rob says, “but even so, a rainy-day fund can help keep you from tapping your retirement accounts prematurely.”