Question

This is the beginning of a new year. Having just graduated from college with a degree in finance, you landed a job as a personal finance counselor with a large wealth management firm. Your very first client is a young couple who want to put their financial business in order and develop a plan for their retirement and future family needs. Both the husband and the wife are 31 years old and in stable employment. They want to retire together at the age of 67. They want you to help them in their financial planning by answering a series of questions, as follows:

10. Now assume they want to leave a full $2 million for their kids by the time they die, 25 years after retirement. How much can they afford to withdraw per year, at the beginning of each year, if they retire with their $2 million nest egg as planned, and their retirement savings will still grow at 5% per year?

Answer 1

We can use perpetuity method which pays equal amount of payment with periodic interval for indefinite time or principal amount is remained same at any point of time

Formula of Present value of perpetuity is

Annual payment (R) = Present Value of a perpetuity * r

Where,

The present value of a perpetuity at the time (t=0) (nest egg) = $2 million or $2,000,000

Annual payments R =?

Interest rate r =5% per year

Therefore,

R = $2,000,000 * 5%

= $100,000

Therefore they can withdraw $100,000 per year and leave a full $2 million for their kids by the time they die.