Two of Edna's concerns are the following:

- Even under favorable assumptions, if she keeps the same asset allocation, she will be selling investments at an increasing pace, since required distributions will rise as dividend income falls.
- Her assumptions are bound to be wrong. Markets cycle. If she is taking distributions in a bear market, she will have to sell ETFs that have already declined in value.

There are several things that Edna could consider at this point. She could reallocate her money to individual dividend paying stocks; she could purchase ETFs with an income tilt; she could just do nothing and hope that VTI is up in years that AGG is down, and vice versa; or she could increase her cash allocation, reasoning that even if her income doesn't keep up with her RMDs, she would be limiting her losses; or she could do any combination of these steps.

I believe that part of the solution for Edna might be something that I seldom read about on SA: a bond ladder. I was taught in school that you should match duration with the timing of expected expenditures; and that bonds, held until maturity, are good vehicles for intermediate term savings, which is what Edna needs.

Edna could purchase five bond issues, each with a principal amount of $20,000, with durations ranging from one to five years. The bonds that I selected have ratings of AA, AA+, and AAA. Average yield on this portfolio would be 1.54%. Each year, Edna can choose to do one of two things, depending on how her ETFs have performed over the previous year:

- Sell one of her ETFs to provide funds for her RMD, and roll the expiring bond into a new five year bond.
- Use proceeds from the expiring bond for her RMD (along with dividend and interest income earned during the year). Wait for a future opportunity to liquidate one of her ETFs.

This strategy would minimize the impact of really lousy markets by allowing Edna to meet most or all of her RMD needs without having to sell investments into a down market.

It is worth noting that a 65-year-old could implement the same strategy using bonds with durations between six and ten years (since the first RMD is five or six years away). I was able to select bonds with an average yield of 3.04% for this strategy; again, all were rated at least AA.

Here are the bonds that I found on the Schwab website a couple of days ago:

For the shorter maturity ladder:

Maturity date | Issuer | yield | rating | princ amt | 2014 interest |

1/9/2015 | GE Capital | 0.59% | AA+ | $20,000 | $118.00 |

5/15/2016 | J&J | 0.85% | AAA | 20000 | $169.00 |

1/31/2017 | Berksh Hth | 1.57% | AA | 20000 | $313.20 |

5/3/2018 | Apple | 2.17% | AA+ | 20000 | $434.60 |

3/15/2019 | Pfizer | 2.55% | AA | 20000 | $509.00 |

For the longer ladder:

Maturity date | Issuer | yield | rating | princ amt | 2014 interest |

5/15/2018 | GE Cap | 2.66% | AA+ | $20,000.00 | $532.00 |

3/15/2019 | Pfizer | 2.55% | AA | $20,000.00 | $509.00 |

1/8/2020 | GE Cap | 3.44% | AA+ | $20,000.00 | $688.00 |

1/15/2021 | Berksh Hth | 3.39% | AA | $20,000.00 | $678.60 |

8/15/2021 | Mobil Corp | 3.15% | AAA | $20,000.00 | $629.60 |

Comments are welcomed and appreciated.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Two of Edna's concerns are the following:

- Even under favorable assumptions, if she keeps the same asset allocation, she will be selling investments at an increasing pace, since required distributions will rise as dividend income falls.
- Her assumptions are bound to be wrong. Markets cycle. If she is taking distributions in a bear market, she will have to sell ETFs that have already declined in value.

There are several things that Edna could consider at this point. She could reallocate her money to individual dividend paying stocks; she could purchase ETFs with an income tilt; she could just do nothing and hope that VTI is up in years that AGG is down, and vice versa; or she could increase her cash allocation, reasoning that even if her income doesn't keep up with her RMDs, she would be limiting her losses; or she could do any combination of these steps.

I believe that part of the solution for Edna might be something that I seldom read about on SA: a bond ladder. I was taught in school that you should match duration with the timing of expected expenditures; and that bonds, held until maturity, are good vehicles for intermediate term savings, which is what Edna needs.

Edna could purchase five bond issues, each with a principal amount of $20,000, with durations ranging from one to five years. The bonds that I selected have ratings of AA, AA+, and AAA. Average yield on this portfolio would be 1.54%. Each year, Edna can choose to do one of two things, depending on how her ETFs have performed over the previous year:

- Sell one of her ETFs to provide funds for her RMD, and roll the expiring bond into a new five year bond.
- Use proceeds from the expiring bond for her RMD (along with dividend and interest income earned during the year). Wait for a future opportunity to liquidate one of her ETFs.

This strategy would minimize the impact of really lousy markets by allowing Edna to meet most or all of her RMD needs without having to sell investments into a down market.

It is worth noting that a 65-year-old could implement the same strategy using bonds with durations between six and ten years (since the first RMD is five or six years away). I was able to select bonds with an average yield of 3.04% for this strategy; again, all were rated at least AA.

Here are the bonds that I found on the Schwab website a couple of days ago:

For the shorter maturity ladder:

Maturity date | Issuer | yield | rating | princ amt | 2014 interest |

1/9/2015 | GE Capital | 0.59% | AA+ | $20,000 | $118.00 |

5/15/2016 | J&J | 0.85% | AAA | 20000 | $169.00 |

1/31/2017 | Berksh Hth | 1.57% | AA | 20000 | $313.20 |

5/3/2018 | Apple | 2.17% | AA+ | 20000 | $434.60 |

3/15/2019 | Pfizer | 2.55% | AA | 20000 | $509.00 |

For the longer ladder:

Maturity date | Issuer | yield | rating | princ amt | 2014 interest |

5/15/2018 | GE Cap | 2.66% | AA+ | $20,000.00 | $532.00 |

3/15/2019 | Pfizer | 2.55% | AA | $20,000.00 | $509.00 |

1/8/2020 | GE Cap | 3.44% | AA+ | $20,000.00 | $688.00 |

1/15/2021 | Berksh Hth | 3.39% | AA | $20,000.00 | $678.60 |

8/15/2021 | Mobil Corp | 3.15% | AAA | $20,000.00 | $629.60 |

Comments are welcomed and appreciated.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Now that Edna is faced with annual distributions, she decides to forecast what her future withdrawal requirements will be. Using historical averages, she feels that she can expect an average dividend yield of 2% and an average price appreciation of 3.5% on her VTI/AGG combination. Edna knows that averages can be a dangerous planning basis, but she has to start somewhere. Under these assumptions, the next ten years will look something like this:

- RMDs rise gradually from 3.77% in 2014 to 5.35% in 2023.
- The dollar amount of the distribution rises from $44,397 to $57,179 over the same period.
- At the same time, the dividend payments on Edna's ETFs fall from $21,519 to $20,662 as the balance in the account falls.
- Total distributions for the time period will be $508,182.
- At 28%, Federal income tax on this amount will be $142,291. This is about 12% of the year-end 2013 account balance.

At this point Edna realizes three things:

- Even under favorable assumptions, if she keeps the same asset allocation, she will be selling investments at an increasing pace, since required distributions will rise as dividend income falls.
- Her assumptions are bound to be wrong. Markets cycle. If she is taking distributions in a bear market, she will have to sell ETFs that have already declined in value.
- If she doesn't spend all of her RMDs, she will gradually build up a decent sized after-tax investment account, and she should have a plan for this account.

Like most of us, Edna is probably also wondering, "Why didn't I think of this earlier?" The answer, of course, is that she didn't think it was important until now!

Edna has a lot to think about. The next few posts will discuss what her response might be to these concerns.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Now that Edna is faced with annual distributions, she decides to forecast what her future withdrawal requirements will be. Using historical averages, she feels that she can expect an average dividend yield of 2% and an average price appreciation of 3.5% on her VTI/AGG combination. Edna knows that averages can be a dangerous planning basis, but she has to start somewhere. Under these assumptions, the next ten years will look something like this:

- RMDs rise gradually from 3.77% in 2014 to 5.35% in 2023.
- The dollar amount of the distribution rises from $44,397 to $57,179 over the same period.
- At the same time, the dividend payments on Edna's ETFs fall from $21,519 to $20,662 as the balance in the account falls.
- Total distributions for the time period will be $508,182.
- At 28%, Federal income tax on this amount will be $142,291. This is about 12% of the year-end 2013 account balance.

At this point Edna realizes three things:

- If she doesn't spend all of her RMDs, she will gradually build up a decent sized after-tax investment account, and she should have a plan for this account.

Like most of us, Edna is probably also wondering, "Why didn't I think of this earlier?" The answer, of course, is that she didn't think it was important until now!

Edna has a lot to think about. The next few posts will discuss what her response might be to these concerns.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I have heard and read a lot of complaining recently about Required Minimum Distributions. They destroy wealth! They eat in to principal! They are unfair! And so on. Because of "RMD anxiety disorder," many seniors are so worried about taxes that they completely panic. This is great for commissioned salespeople who sell fancy, expensive annuities, but not for the investors affected.

To see how dire the RMD situation really is, I dreamed up Edna, who was born in 1942. As of January 1, 2012, she had exactly $1 million in an IRA, invested in a 50/50 mix of Vanguard Total Stock Market ETF (VTI) and iShares Total Bond Market ETF (AGG), with no dividend reinvestment.

Edna has sufficient income from pensions, Social Security, and after-tax investments to put her just at the top of the 25% tax bracket. She has no need for a discretionary withdrawal from her IRA, so she makes her first-ever distribution on January 2, 2013.

Edna's balance on December 31, 2012 is $1,106,154. Her RMD is 3.65% of this amount, or $40,375. She sells 193 shares of VTI. These proceeds, along with the cash balance in her IRA, satisfy her RMD. After the sale and withdrawal, based on that day's closing prices, her IRA balance is $1,094,516.

Edna's allocates 28%, or $11,305, for taxes, leaving her with $29,070. This money is Edna's to use as she wish.

The key point here is that **Edna's after-tax amount of $29,070 is still in play if she wants it to be.** The gloom-and-doomers write as if this money just disappears from the face of the earth. Nonsense! Either Edna needs/wants the money anyway, in which case it would get withdrawn (and taxed) anyway; or she doesn't, in which case she is now holding assets in an after-tax account. After many years of tax deferral, she is finally paying income taxes equal to 1.02% of her retirement assets. Paying taxes is never pleasant, but how is this a panic-inducing catastrophe?

Edna's ten minutes are up.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

**Additional disclosure:** I have a few years to go before entering RMD territory, but it's been on my mind (and in the news) a lot lately. My home state, Texas, does not have an income tax.

I have heard and read a lot of complaining recently about Required Minimum Distributions. They destroy wealth! They eat in to principal! They are unfair! And so on. Because of "RMD anxiety disorder," many seniors are so worried about taxes that they completely panic. This is great for commissioned salespeople who sell fancy, expensive annuities, but not for the investors affected.

To see how dire the RMD situation really is, I dreamed up Edna, who was born in 1942. As of January 1, 2012, she had exactly $1 million in an IRA, invested in a 50/50 mix of Vanguard Total Stock Market ETF (VTI) and iShares Total Bond Market ETF (AGG), with no dividend reinvestment.

Edna has sufficient income from pensions, Social Security, and after-tax investments to put her just at the top of the 25% tax bracket. She has no need for a discretionary withdrawal from her IRA, so she makes her first-ever distribution on January 2, 2013.

Edna's balance on December 31, 2012 is $1,106,154. Her RMD is 3.65% of this amount, or $40,375. She sells 193 shares of VTI. These proceeds, along with the cash balance in her IRA, satisfy her RMD. After the sale and withdrawal, based on that day's closing prices, her IRA balance is $1,094,516.

Edna's allocates 28%, or $11,305, for taxes, leaving her with $29,070. This money is Edna's to use as she wish.

The key point here is that **Edna's after-tax amount of $29,070 is still in play if she wants it to be.** The gloom-and-doomers write as if this money just disappears from the face of the earth. Nonsense! Either Edna needs/wants the money anyway, in which case it would get withdrawn (and taxed) anyway; or she doesn't, in which case she is now holding assets in an after-tax account. After many years of tax deferral, she is finally paying income taxes equal to 1.02% of her retirement assets. Paying taxes is never pleasant, but how is this a panic-inducing catastrophe?

Edna's ten minutes are up.

**Disclosure: **I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

**Additional disclosure:** I have a few years to go before entering RMD territory, but it's been on my mind (and in the news) a lot lately. My home state, Texas, does not have an income tax.