This rule states that you should spend no more than 4% of your initial retirement savings (adjusted annually for inflation) for each year of your retirement. The rule was established in response to the worst historical investment markets of the past century starting in: 1929, 1937, and 1966.

Considering the "terrible" returns of those times, it was determined that one would have been able to provide continuing retirement income for at least 30 years assuming that savings withdrawals were limited to 4% of savings.

Some academic scholars and financial advisers have felt that the 4% rule is too conservative for most times, while others have felt the withdrawal rate should be lowered to perhaps 3% to reflect current worries that future returns may be less than in the past and that life expediencies will continue to lengthen.

It is also important to understand that many who have used this rule have not properly considered other sources of income and the specific future timing for when those sources begin. A common example of this is when someone retiring at age 60 may not have access to Social Security or company pension until a later date.

Finding Your Number

Many financial institutions and their advertisers and sales representative have touted calculating a specific dollar amount to fund future retirement withdrawals. An example often espoused is to accumulate savings equal to 10 times your current salary before retiring.

This too often can cause the total retirement savings amount to become insufficient when past strong investment markets causes one to retire too early. When future investment markets go through a period of poor returns, it many times has caused savings to fall short in covering future spending needs.

A Better Approach

Rather than rely on a set withdrawal percentage, better planning will be accomplished if you can build a more flexible approach to determine future retirement savings withdrawals. Having a customized withdrawal plan will increase your odds that your savings will last for as long as needed.

A Flexible Withdrawal Plan:

--An example of a more dynamic approach for determining retirement savings withdrawals (given a specific retiree's circumstances) might begin by using a higher 5% rate to start, but require the withdrawal amount to be lowered and any inflation adjustment be skipped after any year of poor investment returns that have lowered portfolio values.

This dynamic approach can be further enhanced to provide some leeway to raise future withdrawals, should they be needed, to meet higher spending needs.

--In this approach, for any year that your savings withdrawal rate falls below 4%, you would skip any inflation adjustment and increase your withdrawal rate by 10% for future years. In years where your withdrawal rate remains between 4% and 6% only an inflation adjustment would be applied for future years. In years that your withdrawal rate rises above 6%, any inflation adjustment would be skipped and future yearly withdrawals would be reduced by 10%.

Professional Advice

It may be helpful to obtain professional advice when developing a flexible withdrawal plan for retirement. Advisers can help you determine a set of diagnostics to determine when to make changes to future withdrawals.

Mathematical projections can be very helpful in determining and testing future withdrawal schedules to assure that future spending needs will be covered throughout your entire retirement life expectancy. This will help keep your retirement income plan "on track" and help you feel more secure about your future income to accomplish a financially comfortable and successful retirement.

Greg Tinaglia

Last Updated: 07/11/2018