Retirement income scorecard: Interest and dividends

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How much retirement income can you generate from your 401(k), IRA and retirement savings? It's a critical question because it will affect just how much money you'll have to spend for the rest of your life.

The answer can vary widely, depending on a number of factors, the most important being the method you use to generate retirement income, as discussed in my recent post, "My four favorite ways to generate retirement income." Your age, sex and marital status also have a significant influence. Your income will also depend on a number of economic factors, such as interest rates, dividend payout rates, and annuity purchase rates in effect at the time you retire.

In order to help you discover the answer to the question I posed above, I'll kick off my retirement income scorecard series by revealing the amount of retirement income that can be generated from $100,000 in retirement savings as of the beginning of January 2012, using each of the three methods of generating retirement income I summarized in the post mentioned above. You may want to review that post for background and to familiarize yourself with the advantages and disadvantages of each method.

My four favorite ways to generate retirement income
IRAs and 401(k): 3 ways to generate lifetime retirement income

Method No. 1: Interest and dividends only

One of the safest ways to generate retirement income is to invest in a mutual fund that pays a regular dividend and then use just the interest and dividend payments to cover your living expenses. Because you aren't dipping into your principal, there's a very good chance you won't outlive your money, no matter how long you live. This method also offers the maximum flexibility and access to your retirement savings. The downside is that this method produces the lowest amount of retirement income, as you'll see by comparing this scorecard to the scorecards for managed payouts and immediate annuities in my next two posts.

Here are the estimates of the annual income paid by various Vanguard mutual funds that have regular dividend payouts. I've also included the payout rate -- the annual income as a percentage of the investment -- for the purposes of comparing it to other methods of generating retirement income.

Note that these funds have different asset allocations between equity and fixed income investments, which is one important reason for the differences in income. The Wellesley fund is invested roughly 37 percent in stocks, with the remainder in fixed income or cash. The Wellington fund is invested roughly 65 percent in stocks with the remainder in fixed income or cash. The Dividend Growth and Equity Income funds are invested nearly 100 percent in stocks, while the REIT index fund is invested nearly 100 percent in real estate investments.

All but the Dividend Growth fund pay dividends quarterly, while the Dividend Growth fund pays dividends semi-annually. The above amounts assume the payout rates for the past 12 months will continue for the next 12 months. Your actual income will change to the extent that future dividend payments are increased or decreased from the past 12 months.

Finally, please note that the amounts shown above are pre-tax income amounts. Federal and state income taxes will have a significant effect on your after-tax income, and should be taken into account. The income taxes you pay will vary depending on whether your retirement savings have been invested before taxes in traditional IRA or 401(k) accounts, or have been invested after taxes, such as in a Roth IRA, or are eligible for special tax treatment on capital gains, ordinary dividends or municipal bonds.

Stay tuned for my next post that shows the retirement income scorecard for Method No. 2, managed payouts.

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    Steve Vernon helped large employers design and manage their retirement programs for more than 35 years as a consulting actuary. Now he's a research scholar for the Stanford Center on Longevity, where he helps collect, direct and disseminate research that will improve the financial security of seniors. He's also president of Rest-of-Life Communications, delivers retirement planning workshops and authored Money for Life: Turn Your IRA and 401(k) Into a Lifetime Retirement Paycheck and Recession-Proof Your Retirement Years.

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