Morningstar Drops Recommended Safe Withdrawal Rate to 3.7%

Morningstar Inc. has lowered what the investment research firm considers a safe retirement savings withdrawal rate for new retirees based on a 30-year outlook, according to the firm’s annual “State of Retirement Income” report released Wednesday.

To decide on the recommended withdrawal rate, Morningstar researchers considered forward-looking asset class returns and inflation assumptions for new retirees, excluding what they may be getting from Social Security or other nonportfolio income sources such as a company pension.

In that forward-looking analysis, the authors concluded that higher equity valuations and lower fixed-income yields will likely lead to lower return assumptions for stocks, bonds and cash. That outlook led them to reduce their safe withdrawal rate for the average retiree to 3.7% in 2024, down from the 4.0% it recommended in 2023.

Based on conservative assumptions, the recommendation generalizes what will always be a very personal decision based on a person’s goals, asset mix and life expectancy, says Jason Kephart, director of multi-asset ratings for Morningstar and one of the authors of the report.

“Not everyone will have a full, traditional 30-year period for retirement,” Kephart says. “It really comes down to trade-offs—do you want more income in retirement or more money to leave to your heirs or charities? … There are different strategies, and we are using a more conservative baseline for income to last your lifetime.”

Kephart notes that this year’s report is aimed at retirees starting today; those who created a 4% strategy at the end of 2023 should keep that strategy the same.

The more conservative rate this year is partly based on the strong market run in 2024, Kephart says, and Morningstar expects that markets will be down a bit in 2025. The firm is also anticipating lower interest rates, including an expected rate cut by the Federal Reserve next week, in 2025.

Spending/Ending Ratio

Kephart and the team of analysts generally consider retirement spending strategies as balancing two priorities: maximizing a retiree’s spending, while also leaving inheritance for loved ones or charity. In this year’s report, they considered a new metric to balance those goals called a “spending/ending ratio” of lifetime spending relative to portfolio leftovers at year 30.

By considering that ratio, retirement planners can decide on what mix of strategies is best for them. These might include how to manage portfolio spending, delaying Social Security to increase its payout or investing in an annuity to lock in a guaranteed paycheck.

“We’re trying to look at the various things that people do use [when setting up for retirement],” Kephart says. “That could be an immediate annuity. It could be using a Social Security bridging strategy. … It comes down to how much you want to spend versus how much you want to leave behind and finding that sweet spot.”

First, taking flexible portfolio-spending: Retirees seeking a high level of lifetime income can institute a guardrails approach, combined with delayed Social Security. In the guardrails approach, retirees set a high and low guardrail for their withdrawal rate, adjusting it depending on how their investments are performing. While this approach can create income volatility, if a retiree has delayed Social Security, then that regular, known income stream will help offset the volatility, according to Morningstar.

Second, in terms of delaying Social Security to receive a higher monthly payout, the strategy is recommended for those who can, in the interim, draw nonportfolio income from sources such as a part-time job or rental income. However, if delaying means withdrawing higher amounts from savings, the researchers recommended potentially taking Social Security on time so the savings can benefit from compound interest over the 30-year retirement horizon.

Finally, Morningstar recommends considering adding a guaranteed income annuity to the savings mix. An allocation to a “simple immediate or deferred annuity” can help “enlarge in-retirement cash flows,” analysts wrote. Similar to trying to delay Social Security, retirees should consider how much money it would take to purchase an annuity, compared with keeping the money in an investment portfolio at a lower cost while potentially obtaining higher returns.

Building a Ladder

Morningstar also referred to a strategy of investing in Treasury inflation-protected securities with varying maturity dates and interest rates, known as a T-Bill ladder. With that strategy, a retiree could have 100% success with a 4.4% withdrawal rate, as of today, according to the researchers. However, that strategy would lead to full liquidation of the case scenario in 30 years.

Kephart says interest rates will be a key variable in 2025 and going forward. At the moment, further rate cuts may be possible next year. But new policies implemented by the administration of President-elect Donald Trump may shift that picture, with the potential for continued inflation. While inflation may create higher spending needs for retirees, the related higher interest rates may be a benefit for their portfolios, Kephart notes.

Despite the drop in a safe withdrawal rate, Morningstar noted a propensity for retirees to decrease their spending over time. If that is the case, analysts projected an actual spending pattern may allow for higher withdrawal rates of as much as 4.8% over 30 years with a 90% probability of success.

When it comes to financial advisers helping people come up with a retirement withdrawal plan, Kephart says the most important thing is having the conversation, no matter what number is used as the jumping-off point.

“The 4% [rule of thumb] conversation is a fine place to start,” he says. “But then you have to drill down and see how various factors might change that and how the money should be allocated.”