Can YOU Afford to Retire? | 4% Rule Explained | Safe Withdrawal Rate

Updated : Sep 10, 2019 in Articles

Can YOU Afford to Retire? | 4% Rule Explained | Safe Withdrawal Rate

How much money do you think you would need
to be able to retire? It’s a question that a lot of people have
asked their financial advisers and it’s one that seems to have a different answer for
just about every time it’s asked. And the reason for that is simple the amount
of money that you need to be able to retire depends entirely on how much money you think
you can earn in retirement through interest and dividends and maybe even a part-time job
if that’s your thing, and perhaps even more importantly how much money you’re actually
going to need to survive in retirement. And that number seems to change each and every
time you ask as well because projections of things like medical expenses change as time
goes on. And I’m sure those of you who are nearing
retirement watching this video know medical expenses just seem to be going through the
roof, particularly for retirees. But that doesn’t really help us it doesn’t
give us a goal to strive for as we’re going through our working careers. We may not be able to come up with an exact
number that we’ll need but can we come up with something that’s at least going to be
close? Well today I’m going to talk about something
called the 4% rule and how it gives us that goal to shoot for. I’m also going to be talking about some other
factors to keep in mind when you’re using this rule of thumb as well as some situations
where you’re going to want to avoid the 4% rule in entirely. Let’s get started. So what is the 4% rule? It’s a rule of thumb that’s used to determine
the amount of funds that you will withdraw from a retirement account each year. It’s also sometimes called the safe withdrawal
rate because the money you take out usually consists mostly of interest and dividends,
and thus your principal either stays the same or goes down a little bit but not too much. In fact in 1994 a financial advisor named
William Bengan did an exhaustive study of historical returns in the market focusing
heavily on the severe Market crashes of the great Depression and the early 1970s and concluded
that even during those hard Times no historical case existed where the safe withdrawal rate
exhausted a retirement portfolio in less than 33 years. And for most of us 33 years would easily cover
our retirement. The idea behind the rule is that once you
have approximately 25 times your annual expenses saved for retirement you should be able to
retire with reasonable certainty that you could survive until death on your savings. Because at that point the amount that you
take out for your annual expenses would be approximately 4% of your retirement savings. And when I say 4% of your retirement savings
I mean your entire retirement savings anything that’s been earmarked to use only in retirement
this includes 401ks IRAs and any other ways you’ve saved a nest egg for retirement. For example if you had $450,000 in your 401k
and $50,000 personal IRA then you would have $500,000 in all of your retirement accounts
and your initial withdrawal on the first year retirement would be 4% of that $500,000 or
$20,000. So some other factors that you’re going to
want to keep in mind when using the 4% rule in addition to keeping an eye on your expenses,
is to account for inflation. The 4% rule believe it or not actually allows
you to increase the amount you withdraw to keep Pace with inflation. You can account for this either by just setting
a flat 2% increase to your withdrawals each year which is the target inflation rate by
the Federal Reserve or by just looking to see what the inflation rate was for the current
year and adjusting based off of that. Now you might be wondering how this could
possibly be I mean if you increase how much you would withdraw to keep up with inflation
won’t you eventually run out of money? It’s a legitimate question but as it turns
out no. And it’s because over the long term the market
goes up. Now there are a lot of numbers that are thrown
around by financial advisors about how much the market actually goes up I’ve heard anything
from 6 to 10% a year on average. I’m going to be conservative here and go with
the 6% end of the scale. So let’s go back to the example I’ve been
using in the video you start off retirement with $500,000 in savings, and in the first
year of retirement you withdraw $20,000 or 4% of your savings. And I’m also using a compound interest calculator
here, and it assumes that whatever you withdraw is withdrawn right at the start of the year. So the $20,000 is going to be withdrawn on
January 1st of every year. I’m only noting that because it makes it a
worst case scenario you were to say withdraw $20,000 over the course of an entire year
but you did it in installments of $1,600 each month you would be able to earn interest on
the rest of the money that you hadn’t yet withdrawn throughout the rest of the year
and thus you’re ending net worth would end up being a little bit higher than it will
be in this example. So on January 1st you withdraw $20,000, meaning
you only have $480,000 left in your nest egg. But over the course of the year the market
goes up by 6% which means the value of your portfolio at December 31st would be $508,800. Now in year two of retirement you increase
your withdrawal by 2%. So on January 1st of the second year of your
retirement you withdraw $20,400. That brings your portfolio value down from
$508,800 to $488,400. But again the market goes up 6%, which by
December 31st brings the total value of your portfolio up to $517,704. If you were to continue to calculate this
out for 30 years you’re ending net worth would be $787,716.90, almost $300,000 dollars more
than what you started with in retirement! But of course this is just a rule of thumb
so there are situations where you’re going to want to avoid using this all together. One of those situations would be if your portfolio
consists of a lot more higher risk Investments then say your typical index funds and bonds
that are usually in a retirement portfolio. This is because obviously a higher risk investment
can go down a lot faster than your typical retirement portfolios, which can be extremely
devastating especially early on in retirement. Also this rule of thumb only really works
if you stick to it year in and year out. And if you’re not going to be able to do that
then you don’t want to use this as your retirement goal, because even violating the rule for
one year to splurge on a major purchase can have a severe effect on your retirement savings
down the road because the principal from which the interest and dividends that you get to
survive is compounded from gets reduced. Let me give you an example of how this works:
Say that in addition to taking out the $20,000 your first year in retirement, you decide
to treat yourself with a new car and figuring that you’ll be traveling a lot during retirement
you want to get one that’s good, big, and comfortable as well as reliable. So for this example let’s say you get a new
Toyota 4Runner for about $35,000. Now I know that you could probably find it
for cheaper used, but not everybody likes to buy cars used I know my dad didn’t and
besides this is just an example. So you drop $35,000 on a new car and you still
have to have money to live so the $20,000 still does come out of your retirement, meaning
that you only have $445,000 leftover. Now admittedly the market still does go up
about 6% leaving you with a nest egg of $471,700 at the end of the year. And even if you were to stick to the 4% withdrawal
rate for the rest of retirement which, would be 30 years in this example, by the 27th year
you would be taking out more than you earned an interest and dividends as well as how much
the market went up. And by the 30th year of retirement you would
withdraw $35,516, but with interest, dividends, and Market appreciation your portfolio would
have only gained $33,209 in value. And that could put you in a pretty dangerous
position should the market go down for a couple years, or if you have some kind of medical
emergency. Now I don’t want to make it seem all bad,
I mean unless you retired early, after 30 years in retirement you’re probably in your
90s and don’t need the money to last very much longer and even in this example you still
do end with $586,000. It could be worse right? However I do want to bring your attention
to the difference that this made. This one purchase made your ending net worth
that you could have left as inheritance to your children or grandchildren or even donated
to charity go from $787,000 all the way down to $586,000, that’s a difference of over $200,000. And all that’s with just one splurge. But that’ll about do it for me I hope you
enjoyed the video and if you did or if you learned something be sure to like And subscribe
I’ve got a lot more of these Finance coming out in the near future as well as some more
book summaries and other fun stuff. But with that being said, thanks for watching
and have a great day.


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  • I understand the 4% rule. But a glaring omission in your presentation was where does “Required Minimum Distribution” fit in to all this? When you look at those RMD charts the goal is the government wants you to empty those 401s, 403bs and IRAS. Now you have huge taxes you have to pay on if your money was not in a Roth.

  • Who can live on $20,000 a year?!  My wife and I are retired and we'd be impoverished at that amount.  But since we planned for retirement, $20,000 represents less than two months of our present income.

  • If you withdraw that much in one lump won't you get taxed heavily? I live in CT at the moment and we are taxed if we fart.😟

  • In 30 years that $20,000 will be only worth $5000 in today's dollars. You have to plan on acquiring at least $4 million dollars in 30 years. My $1 million dollars I have gives me $64,000 (with my SS) and I only withdrawal 3% in January of what ever the current balance is each year. Live LONG and PROSPER.

  • Get GOOD! Get Out Of Debt. Avoid debt.
    Invest 10% of all you earn for your entire working life. Even if you have a crappy job. If you think you can't afford to, get another job and change your thinking.
    I bought assets from 1990 to the current day. Retired aged 47 in 2015.
    This is a great video!

  • One place to start is trying to get a sense of what its costs using an online retirement calculator.. I like this one because it takes took into account things like kids, taxes, inheritance, inflation .

  • with just dividends if you actually have 25x your expenses saved up you probably would never have to touch your actual principle and sell any assets because say a long term bond or a s&p 500 etf generally pays at least 2.5% or more in dividends per year so you wouldn't even need to take out much of principle if at all

  • So, the advice is to avoid buying things so that there's a big bank account left over when you're dead? Um, nope. Of course, I'm not planning on splurging and spending it all right away, but I've lived with mid-80 year old relatives. They mostly sit on the sofa and wonder what's for dinner, or wonder who you are and why you're in their house. Half of my relatives didn't make it to mid-80s, either. A very few made it into their 90s. They weren't traveling the world, having adventures, or buying new motorcycles to race along the Tail of the Dragon. They were being helped from the car to the living room, or helped into the bathroom because they can't do that by themselves any more.
    No, I think I'll live a bit more aggressively, focusing my income use on my "good years." Then I can just fucking die when I run out of money.

  • None of these calculations account for capital gains tax, why??! When it’s a major factor your 6% return becomes 4% Return or 3% if in higher tax bracket

  • So tax doesn’t exist, every year profolio is a 6% increase, and what are the chances the year you plan to retire is another 2008 right?

  • Some of the comments are not well thought out. 20k is your yearly draw in addition to social security and pension if applicable. The lowest average yearly cost for retiring in the USA is $43000 per year in Mississippi going up to $60000 plus in California. This is for a basic lifestyle. So the 4% example would fund between a half and a third of basic lifestyles depending on where you retire. The narration fails to take into account that you may have to take more than 4 percent to fund your lifestyle. For example 6 percent would fund half the 60k for California retirement. So at the end of a 30 year retirement (only 2 in 10 65 year olds will live past 95 ) you will leave an inheritance of approximately 250k. Is that so bad? The goal is to not outlive your money, not to leave an estate in excess of your original retirement portfolio. So in that sense I think this video is accurate but only telling half the story.

  • Unless you buy long term insurance when you are young it will be too expensive or too limited for your needs when older. And if you buy it, read the fine print carefully as it has many exclusions limitations and requirements.

  • It's actually been proven now that if you retire at exactly the wrong time, the 4% rule is a smidge too aggressive. Still a good ballpark.

  • Well, here we pay 27% tax on dividends and another 18,6% on all income from dividends and such for health insurance (if you are not working)

  • So, how does the 4% rule work when you factor in social security? Most Americans are going to have a SS check coming in as well as whatever they have in their retirement accounts. Admittedly, it's not typically a large check but curious how you account for it in your 4% retirement equation.

  • I can't go fifteen minutes listening to the radio without hearing some guy who wants to invest my funds for my retirement… so he can then retire comfortably in the future.

  • Don’t take out more than your dividends and you won’t care about fluctuations in the value of your stock portfolio. Div yield on the s&p is about 1.8%. for we Brits the FTSE YIELDS ABOUT 4.5%… and we have the NHS

  • Okay this video is very interesting and I understand how it works. But who the hell wants 500,000 nevermind 700,000 when your 90 years old. So you're ready to die of old age, how the hell can you possibly spend a half a million dollars and actually enjoy it, when you're sitting in a rocking chair drooling on yourself. Spend more money when you're healthy and enjoy life.

  • Buy income property like I did. I'm 57 I own a two-family house paid for. So I'll have approximately 21000 in rental income, another 20,000 in Social Security, that's $40,000. And I haven't touch my 401k which should be around 500,000 in 5 years. And in five years I should have about 300,000 saved in cash.. and most importantly my primary residence is paid off. Do not go into retirement with debt.. and for your information, I'm a Dave Ramsey disciple

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