Does The 4% Rule Still Apply For Today’s Retirees?

For decades, you were in the accumulation stage of life—saving up enough to live comfortably in retirement. Now that you’ve built your nest egg, it’s time to enter the decumulation stage, which can actually feel harder! 

Creating a withdrawal strategy that matches your unique spending needs and risk profile might not be easy, and it likely won’t follow conventional wisdom. You may have heard of the 4% rule for retirement spending, as this is a common rule of thumb that’s been around for nearly three decades.

But in today’s rather unprecedented market conditions, does it still make sense to follow the 4% rule? Let’s take a look.

What’s The 4% Rule?

Bill Bengen created the 4% rule in 1994.

He researched historical data on stock and bond returns between 1926 and 1976 (a 50-year span) to determine retirement portfolio solvency in extreme market conditions.¹

According to his results, a “safe” amount to withdraw each year without running out of money was 4% of your total retirement savings—no matter how volatile or tumultuous the market conditions got. Thus, the creation of the 4% rule.

It states that if a retiree withdraws 4% of their portfolio annually (adjusted for inflation), they should be able to sustain their savings for about 30 years.

To Work, The 4% Rule Carries Many Investment Assumptions.

To work as theorized, you have to create a specific type of portfolio based on some assumptions. Let’s review what we see as the top four. 

Assumption #1: You Have a 60/40 Portfolio Model

Bengen based his conclusions on a 60/40 portfolio model—an allocation of 60% stocks and 40% bonds. But, your portfolio’s allocation should be specific to your goals, risk tolerance, risk capacity, time horizon, and needs. In many cases, that will stray from the conventional 60/40 model.

Assumption #2: You Only Invest in Stocks and Bonds

Another assumption is the strict use of stocks and bonds. But in today’s retirement planning strategies, many find it helpful to pad their portfolio with alternative investments, pension plans, guaranteed income, real estate, and other retirement income sources. 

Assumption #3: Retirement Lasts 30 Years

The 4% rule is designed to last a retiree about 30 years. However, retirement lengths vary immensely depending on when you retire and how long you expect to live.

For example, a 65-year-old male expects to live another 19.1 years.² If that’s the case, only withdrawing 4% annually may be too conservative based on a 30-year expectancy. On the other hand, if someone retires in their 50s, relying on a 30-year projection might overextend their savings.

Assumption #4: Retirees Spend Consistently Every Year

While it does adjust for inflation, the 4% rule makes a considerable assumption regarding your spending: it’ll stay the same every year. 

In reality, your spending habits will likely shift throughout retirement. When you first retire, for example, you might be more active in regards to travel, visiting loved ones, renovating your retirement home, moving to a new city, etc.

But as retirement continues, life tends to settle down, and your spending slows. As you age, however, your spending may pick up again if your health status changes, you lose a partner, or you decide to contribute to a grandchild’s college costs or wedding plans.

Life is unpredictable, and that can include how you’ll be spending your money in retirement.

So, Is the 4% Rule Still Relevant for You?

While considering the assumptions shared above, you might be thinking that the 4% rule isn’t necessarily relevant to you or your retirement needs.

As you’ve heard and seen on the news, we’re experiencing a period of market turbulence and economic volatility. With that being the case, people who are going to retire soon may find the 4% rule isn’t conservative enough to ensure their nest egg lasts a lifetime.

Creating a Better Retirement Income Solution Than The 4% Rule

Instead of strictly following the 4% rule, consider creating a custom solution with your financial planning team to determine your own withdrawal rate in retirement.

This withdrawal rate may change year to year, depending on what’s happening in the markets and your personal retirement plan. For example, you may decide to withdraw conservatively in the early years of retirement if you anticipate needing more later in life.

Drawing down your nest egg can be more complex than you think, especially since you spent decades working hard to build it up. That’s why working one-on-one with a trusted financial professional can be significant. They can help you develop a strategy, project future income, and determine the proper accounts to pull from. Not to mention, a professional can help proactively plan for future tax liabilities to extend the life of your nest egg.

If you haven’t spoken with a financial professional yet regarding your retirement income planning, please feel free to contact our team. We’d be more than happy to look at your current savings and develop a tailored plan to meet your spending needs in retirement. 

^Sources:

^{1What Is the 4% Rule for Withdrawals in Retirement and How Much Can You Spend?}

^{2Retirement & Survivors Benefits: Life Expectancy Calculator}

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Advisory services are offered through Legacy Wealth Advisors, LLC dba Legacy Wealth Advisors, an Investment Advisor in the State of Michigan. The information contained herein should in no way be construed or interpreted as a solicitation to sell or offer to sell advisory services to any residents of any State other than the State of Michigan or where otherwise legally permitted.

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