The Two-Year Bridge: Prem and Anita's Retirement Date
Prem, 61, and Anita, 59, are both in good health and plan for Prem to stop work at 63. Investable assets are $1,350,000 in a 65/35 portfolio with an all-in fee of 1.4%, plus $180,000 in cash. Their home is worth $850,000 with a $210,000 variable-rate mortgage at 5.2% and 12 years remaining. After-tax spending is $92,000 a year, of which $23,556 is mortgage payments. Prem has a defined-benefit pension of $24,000 a year payable unreduced at 65; starting it at 63 reduces it by 6% for each year taken early. Two government pensions of $1,900 a month each begin at 65. Prem wants a 4.5% initial withdrawal rate and to 'let inflation eat the mortgage'. Anita is strongly risk-averse: the portfolio fell 22% in a previous downturn and they sold at the bottom. She wants the mortgage cleared now.
1. Is a 4.5% initial withdrawal rate sustainable for this household? Work through the cash flows for ages 63-65 and 65-plus, and state what actually determines sustainability here.
Read the worked answer
Build the floor first. At 63 the defined-benefit pension is reduced by 12%: $24,000 x 0.88 = $21,120. Government pensions do not start until 65.
Ages 63-65: spending $92,000; DB pension $21,120; the portfolio must supply about $70,900 plus tax on withdrawals, say $78,000 gross. That is 5.8% of $1.35m for two years.
Age 65-plus: DB $24,000 + two government pensions $45,600 = $69,600, so the portfolio needs $22,400, which is 1.7% of assets.
Age 73: the mortgage ends and spending falls to $68,400, essentially covered by the pension floor alone.
So the 4.5% headline is the wrong lens. This is not a constant-percentage drawdown; it is a two-year bridge followed by a very low, pension-supported draw. Sustainability is set by (a) whether the bridge is funded from cash rather than equities, and (b) whether a 65/35 portfolio net of a 1.4% fee earns more than the 1.7-2.5% actually required after 65. Expected net returns of roughly 4.5-5% clear that bar comfortably.
The real risks are not the withdrawal rate but: spending that rises faster than assumed, early retirement forced by health, and Anita capitulating in a drawdown. Note also that 4.5% of the initial portfolio applied literally would overspend during 63-65 and underspend thereafter, which is the opposite of what the plan needs.
2. Anita wants the $210,000 mortgage repaid immediately from the portfolio; Prem wants to keep it. Advise, with numbers.
Read the worked answer
Quantify both sides. Repaying $210,000 at 5.2% saves $23,556 a year of payments and earns a risk-free, after-tax 5.2%. A 65/35 portfolio might expect 6% gross, but after the 1.4% fee that is about 4.6%, with volatility. On a risk-adjusted basis, prepayment wins, and it lowers the cash flow the plan must fund in a bad market.
But sequencing matters more than the arithmetic. $210,000 is 15.6% of investable assets, and the two-year bridge at 63-65 is the only genuinely fragile part of the plan. Repaying in full today would leave the bridge dependent on selling equities at whatever price prevails, which is exactly the behaviour that hurt them before.
Recommendation:
- Ring-fence the bridge first: keep the $180,000 cash plus roughly $71,000 (three years of mortgage payments) in a short-dated ladder so the 63-65 gap is funded regardless of markets.
- Then prepay the loan down to the point where the remaining payment is covered by the DB pension alone, roughly $90,000-$110,000, rather than extinguishing it.
- Full repayment is defensible only after the bridge and a six-month reserve (about $46,000) are intact, and only if Anita's risk tolerance is the binding constraint on the whole plan.
Check prepayment penalties, whether the rate is variable, and whether any interest is deductible before acting.
3. Set out three concrete measures that would protect this plan against a bad market in the first two years of retirement.
Read the worked answer
Fund the bridge from cash, not equities. The $180,000 in cash covers the 63-65 gap of roughly $78,000 a year gross, plus the first year after 65. Ladder it into T-bills or short deposits maturing each quarter. This alone means no equity sale is needed before age 66.
Extend the cash floor to three years of post-65 withdrawals, about $67,000. The equity sleeve then goes untouched for roughly five years. For a household this size, that is the practical meaning of a sequence-risk buffer, and it costs little in expected return.
Write a rebalancing and spending rule now. Rebalance on bands (say 5 percentage points), not on a calendar, and specify that if the portfolio falls more than 15%, spending comes from the cash floor and equity sales are suspended. Get Anita to sign it. Her past capitulation is a larger threat to this plan than any withdrawal rate. Also confirm whether the government pension can be deferred on favourable terms; deferring the DB pension to 65 is roughly actuarially fair, so the early start is a liquidity decision, not a return decision.