Hi there, Mrs. 1500 today, tag-teaming with the Mr. to ask Do you believe in the 4% rule?
But first, let’s talk about last week’s question and answers: How do you interact with people who are the exact opposite?
When I asked this question, we had just spent a very long weekend with some family who had been in town. They like to spend money, and consider almost any occasion a reason to go out to dinner rather than eat at home. They prefer the gift shop to the visitor center at any destination, and cannot wait to part with their money for trinkets they will inevitably lose or break. We had a difficult time finding things to do with them, because we would prefer to do free things.
Chattanooga Cheapster says he doesn’t act any differently around people who do not share his way of thinking. I try, but one can only repeat the same things so many times before exploding… I keep getting the same response when I say we would rather stay home to eat: “Well, it’s a special occasion.” No, it isn’t. And I am a good cook. Really. (Mr. 1500 once told me about the time he ate spaghetti at a friends house — his wife made spaghetti sauce out of ketchup! I cannot imagine how horrible that tasted…
FI Pilgrim hits it on the head by saying “…you don’t want to come across as arrogant.” He is lucky, in that he has a family who thinks very similarly to him. I don’t want to come across as arrogant, and this is my struggle, because I feel like I do come across as holier-than-thou or snotty when I say I don’t want to go out to dinner. It just makes for an uncomfortable visit all the way around… (PS: Congratulations on a darling brand new baby girl, FI Pilgrim!)
Mrs. PoP from Planting our Pennies redirects the conversation back to them, by asking “Tell me about your new X.” Great idea. Now I just have to remember it.
Even Steven recommends just keeping quiet. MUCH easier said than done, my friend. I am really bossy, and I think my heart believes that if I just keep saying it, eventually I will bring them to my way of thinking. Totally arrogant, totally wrong. My head knows that…
Now, I turn this post over to Mr. 1500.
The 4% rule is based on the Trinity Study which attempted to determine a safe withdrawal rate in retirement. I won’t go into the details here, but MMM has a really good post on it. Please read it if you need a primer.
The 4% rule is the cornerstone of my early retirement/financial independence dreams, but I admit that I question it at times. Here are some random thoughts that I have:
Why I worry about the 4% rule
- The world is a much more volatile place: The proliferation of horrific weapons, the destabilization of the Middle East and the rise of various terrorist groups make the world a much more dangerous place. 9/11 wreaked havoc on the world economy, but the potential for an attack much, much worse certainly exists. Some say that it’s only a matter of time.
- 4% rule is based on historical modeling: Every investment in the world warns that ‘past returns are not indicative of future gains.’ One may argue that stock appreciation won’t continue as it did in the past.
- The rule only accounts for the next 30 years: In 30 years, I’ll be 70. I plan on living much longer than that.
Why I’m OK with the 4% rule
- The rule is extremely conservative: In many of the historical models, one could have drawn a lot more than 4% and been just fine. I highly recommend you check out the FIRECalc and run some simulations for yourself.
- The rule assumes no future income: I expect social security to still be around, although probably in diminished form when I hit eligibility. I also expect to earn some money in random work post FI.
So, what are your thoughts? Do you believe in the 4% rule? Why or why not?
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I believe in the math behind the 4% rule, but to be conservative I’m planning on a 3% rule.
I think 4% would work for our family considering we can always bring in some extra income by preparing tax returns, or with social security down the road, but for now I’m mentally banking on a 3% withdrawal rate just to be safe.
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You’re scaring me Brad because I know you’re a smart guy!
You hit on the main problem with the 4% rule: it’s based on the assumption of 30 years of retirement. For early retirees, that 30 year timeframe is insufficient (maybe 50% too short). The other caveat is that, I believe, it’s based on a 50% stock and 50% bond allocation. I think the short answer is to try to work off a 3% figure.
Jason Hull had a great piece on early retiree retirement plans: http://www.hullfinancialplanning.com/how-much-do-you-have-to-save-to-retire-early/
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MMM had a pretty good explanation of why the 30 year period doesn’t matter much. However, I’m still paranoid. I need to just stop worrying.
I’m basically on-board with the 4% rule. I think the bigger risk for most people isn’t a market crash, it’s a spending splurge. But, like you, I’m basically planning with the 4% rule in mind and then looking at Social Security as cushion money. Plus I can always do a little side work to make ends meet if needed.
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Hmmm, I like what you’re saying. I can always get a job too to make up for any severe losses. That is the beauty of being able to live on a small amount of money; it doesn’t take much to move the needle.
I’m 24 and don’t think social security will be around. I’m socking as much money as possible. I want to have a fun, frugal retirement! It’s hard for me to keep my mouth shut when I’m in a room full of people that think differently. But for the most, I try not to say much and instead just ask questions. And then, more questions. I often try to find out what they did well on and what they didn’t do so well on. Why repeat mistakes when you can learn from others??? Right??? 🙂
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I think it’s pretty ridiculous that lawmakers aren’t changing social security now to try to preserve more of it. People are living longer, so the ages that folks can take benefits needs to be jacked up.
I have also been thinking about whether to change the 4% assumption in my retirement planning spreadsheet to 3% or something else. For the moment, I am also sticking to 4% for the reason that I feel it is already fairly conservative. Now your points about volatility are worrisome – if the market crashes early person’s retirement, that is very hard to overcome. I am still 20 years from retirement so we’ll see what happens between now and then, but I’m seriously thinking about putting some portion of my money into an annuity (maybe 25-50% of my total assets). I also plan to take out 4% of my assets based on the assets of the prior year. For simplicity’s sake, let’s say my assets are $1M when I retire. I would take out 4% of $1M the following year, or $40k. If my assets were to dive by 50% that second year due to a market crash, I would immediately go down to 4% of the new level, or 20%.
Perhaps I worry too much about geopolitical events. However, I’ve heard some high level CIA people talk and it’s pretty scary. Bleh.
I know 0 about annuities. Time to hit up the Google.
I’ve been using the 3% rule, just to be safe. I really fear that a market crash is in the near future, so I would rather be safe than sorry with my calculations. But, market crash aside, most people agree that 4% is still a safe number.
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I agree with you that a market correction will probably happen in the next year or two.
I do think that 4% is pretty safe too, especially considering that it assumes no further income.
It’s all about flexibility. You might project to average a 4% draw down each year, but the amount drawn out will depend on how the markets are doing. If the fund is down 20%. well probably time to tighten the belt. If funds are up 20%, well time to gauge how much you can draw out and then some for when the fund is down.
As for the world being a volatile place, I’d suggest it’s no less volatile than it has throughout human history. For example, the 20th century saw 2 of the deadliest, most destructive wars in human history. Stocks seem to have done pretty good in the 20th century. As long as the investment outlook is sufficiently long, whatever is happening in the world, volatility or whatever, is of no consequence.
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I’m pretty sure that having 1-2 years worth of cash is the rule of thumb in addition to that, no? Use the cash / interest in downturns so you aren’t selling low. Seems to make sense to me. Most bear markets tank in 6 months and take another 2-3 years to come back during the bull. I’d rather not sell most of my assets at the wost possible time.
That being said, i’m *crossing my fingers* going to retire with enough dividend interest to be safe. But that doesnt mean i’m ignorant of attempting a draw-down solution and 3-4% is very reasonable. I never thought to run prior studies through more than 30 years though. Very interesting thought.
I’ve never heard about having that much cash around, but I think it’s a wise idea. Cash out stocks when markets are flying; when they’re taking a dump, use the cash pile.
Nice point about the 2 world wars. I worry too much. On the other hand, nothing major has ever happened in modern history on North American soil. There I go worrying again.
I like what you say about tightening the belt. I don’t live super extreme; we go out to eat and take nice vacations. If the market took a big dump, it would be easy to suspend these activities for a while.
We model our “early retirement locale tracker” with the 4% rule, but our actual game plan won’t have 4% withdrawals. I can’t remember the exact numbers, but it’s something like 3.5% for the first 7 years or so, then decreasing to 3% or so once the mortgage is paid off. But that also implies we never have any income ever again, which seems pretty unlikely with Mr PoP hanging around wanting to start businesses for fun. =)
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You guys are playing it super safe which reminds me of another thought I’ve had recently. It is this: If I ran out of money, I’d consider that a failure. However, if I’m 90 and have 10,000,000 in the bank, I’d also consider that a bit of a failure. It would mean that I played it too conservative and could have stopped working a lot earlier.
Yes – but I still do worry about it (worry wart). I do a lot of ‘what ifs’ – what if SS isn’t available/gets cut; what if my retirement medical option is taken away before I retire; what if the market crashes right around retirement time ; what if…
I also worry about drawing from my various resources in as smart of a way as possible (min. Tax; max sustainability). I am still working on figuring out lots of investment options, timelines, drawdowns, conversions….
Ha, I am a worry wart too. Better to worry too much than not enough?
I believe in math, so yes I believe in the 4% rule and see no reason to be any more conservative. It’s kind of useless to worry about global instability hurting your portfolio. You can’t hedge against the apocalypse, so why worry about it.
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Wise words CC…
I am with you on the 4% rule can do well especially if you think you will earn even a little income in retirement. I’m not sure if I can completely not earn some income (at least not right away, there will be an adjusting period that’s for sure).
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Yep, I need to worry less. Much less. Sigh.
A classmate of mine from college recently passed and Mrs. Maroon informed me that, to honor her legacy, the family created an endowed scholarship at Texas A&M. The scholarship structure is simple: a $25,000 donation establishes a $1,000 annual scholarship. There it is: The Four Percent Rule! Right there in Maroon and White!
Granted, it’s not a reason to simply abide by the Four Percent Rule, but it demonstrates its practicality.
When my father passed away, we were able to create a memorial scholarship at A&M for $500/year from the donations people were asked to give to the school rather than the family (they didn’t tell us the total amount donated, just the results). I’d say they’re doing pretty well in the investment department!
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Maroon and white, ha! Nice work both of you. I look forward to giving back to my alumni someday. Go NIU Huskies!!
I believe that despite many of us being conservative and known for hand wringing ( me included ) have to take a leap of faith and agree with a 4% safe withdrawal rate at least in principle. Of course most of us would adjust accordingly if need be. Life is not linear…so there will be ups and downs along the way. Preferably more ups than downs. 🙂
Yep, I just have to not let the down freak me out. Perhaps I need to write a book; “How I learned to stop worrying and love the 4% rule”.
I am relying on my rentals, and figure about a 40 year time span after I retire. When I have my budget, I allocate 2% of my investment, plus rental income. FireCalc says I have a lot more to spend, but until I can actually feel things working, I will be conservative.
So, in a average world, I have about 4x as much as I spend now, and worse case, only 2x. but I plan on spending a bit more after I leave work, but not too much. I didn’t save all my money so that I can just go out and spend it… lol
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The only issue I have with the 4% SWR is not necessarily the percentage but more the capital remaining at the same level. I mean, if my spendings would by 30K per year, the SWR is 4% then my capital should be 750K. So far so good. However, if i keep withdrawing 30K a year, with 4% interest the capital stays the same. Is this realistic? I mean, you can’t take anything with you by the time your gone, so doesn’t it make sense to add a slight capital decrease into the calculations?
If I withdraw 30K (4%) each year, and I only make 3,55% on the 750K, I still have money left after 60 years. After 50 years the rate’s only 3,25% and I still have money.
The 4% rule was the most conservative draw down. So, if you retired right before the market took a huge dump, you’d still be able to get by. I a whole lot of historical cases, you may very well buy the farm with loads of money in the bank. I consider that to be a risk as well. Who want to die with $10,000,000? Not me. My kids maybe would vote for it. Ha!
The comment by Bas nailed it. Early on, use a variable 4% withdrawal rate. The longer your nest egg survives and grows, the more flexibility you will have as you approach SS and RMD. The longer you live, you can decide if leaving a sizeable nest egg is important. Those could be times to increase giving or create a legacy fund. Step 1, acquire a large nest egg.
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Early or late retirement is a factor too.
I’m not planning on working until 65. Not gonna happen. I’ll have enough well before then. What i took out of this article is a different set of thinking if your money has to live 30 years or 60 years into the future. It’s different calculus and the standard approach might need to be revisited.
I do for me because:
– I’m 54 and hubby is 61 and we’re both still working to payoff mortgage in 4 more years
– I think social security will still be around for us
– I will work PT after I retire if necessary
– I will use capital if needed, no money for children
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I follow the 4% rule and I’m comfortable with it because of our spending. I can’t control or predict anything that’s going to make the market crash so I’m going to spend my time controlling my behavior. Just playing around with the FIRECalc a decrease of $2k in annual spending on the same portfolio increased the success rate by 6%! I strongly believe that decreasing our spending and securing other income streams through real estate, e-businesses, P2P lending, etc. will be more than sufficient for our 50+ years of retirement.
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That FIRECalc is pretty awesome, isn’t it? I was similarly amazed how very small tweaks can drastically change outcomes. It is very encouraging.
I like the 4% rule as a general guideline, but would not rely on it blindly for my retirement. As others have mentioned, it was originally determined to work for a typical 30 year retirement, so this would be a problem for those looking to retire early. Anyone looking to use the rule should understand it’s origins and read up on how Bill Bengen came up with it and what assumptions he used (for example, I believe he assumed a mix of 50/50 stocks/bonds).
As with any tool, it is important to understand why it works, before implementing how it works.
I’m OK with the math behind the 4% rule, but I’m leaning more towards the 3% rule for our uses. I’m planning on being retired for more than 30 years, and the 4% rule is kinda specific to the 30 year mark (although MMM has a good argument on why that’s not so important). It’s more of the “plan for the worst, but hope for the best” situation for us. Chancing our happiness and livelihood when we can’t work any longer on a rule of thumb, isn’t my style. I’d rather work a few more years and have “extra” to leave to heirs than run out before we die.
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I worry about the 4% rule too even though I really like it as a general rule of thumb.
My main concerns are (geo)political instability and the fact that the Trinity study is mostly US centred. Since there’s a lot of talk about property/wealth taxes, capital gains taxes, stock market taxes and the like in Belgium, I fear that the government will want its piece of the 4% yearly withdrawal in the future.
Luckily, however, I’ll be able to count on a generous pension plan once I turn 65! So that should cushion a severe blow to my portfolio quite nicely.
We’ll see how it works out. I’m only 25 and still have years of saving ahead.
Best wishes,
NMW
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I’m shocked most people immediately go from 4% to 3% rule when worried. That’s a 25% difference! In these calculations (and really, folks you have to go play with FIRECalc…) that much of a difference is massive. Why not 3.75% or 3.5% as a scenario?
That said, fear is awful. I’m a saver so the arguments that go like “Oh, just a live a little” don’t usually resonate. However, once I got to where the 4% rule worked for me on my current budget last year, I vowed to retire as soon as I could disentangle and I have done so. A lot of folks have studied this problem and it is not possible to eliminate the uncertainty, but I know myself, and if I turn out to have made a mistake and need to earn some more money when I’m 55 or something (the horror! what I was doing anyway ?) I’m going to give my past self a break. I’m not going to be afraid to try or I’ll never retire, and in my view anyway the younger you can do it the more prime years you’ve got.
Optimism and adaptability make the 4% rule at least a great starting point for knowing when you can retire yourself, then you can make it work come what may afterwards, same way you did before, right?
Wow Mike, you win the award for best comment (Statue is in the mail).
I really like what you say about going from 4% to 3%. It is a bit extreme, especially considering the rule is supposed to account for retiring at the worst possible time.
I’m going to retire based off of 4%, but set some thresholds. If my savings drops below a threshold, I get a job or make the Mrs. get one. No big deal.
I worry too much.
PS: Congratulations on your retirement. I’d love to hear more of your story sometime.
Well, worrying does help a lot, but there are limits I think. I’ll be waiting for that statue too ;-). I have a bunch of material I’m collecting for blog ideas myself and once I slow down from the initial “I’m retired, let’s go traveling!!!” whirlwind and determine what my favorite pizza place is I’ll be sure to look you guys up to tell the tale :-). You guys (the 1500s) sound like you’re nailing it and are super handy. I just can’t imagine the sort of slow-motion failure that is a 4% rule withdrawal rate that’s no longer working would really damage your life. Change it a bit, perhaps, but all with little to no real time pressure.
One thing I’m finding post-early-retirement is that it’s actually semi-difficult to be retired young. That sounds stupid and isn’t a complaint or anything – just that there are all sorts of new difficult (to me) skills needed to do it well (portfolio mgmt, tax optimizations to execute, engaging more with your community but not over-committing, budgeting is a little different, health care changes, heck – how to even talk to people about it so you don’t irritate them!) etc etc. Not hard, just difficult. Lots of stuff is different. To me, that is fun in and of itself because it means that there is a lot of new stuff to learn, but from a different perspective it seems like a good idea to try to learn this stuff and do well at it young so that if I make any horrible mistakes no problem, plenty of time to work again and save more and try again. That is an unexpected but strong argument to give it a go right at 4%, to me.
I will say I fully expect to be similar to MMM in that I’ll be shocked if I don’t happen to earn some (or a lot of) money in the future, it’ll just be 100% chosen and 100% optional (so I can be like jlcollinsh and say what needs to be said if people aren’t behaving well 😉 ). Cheers!
Ahhh, the Vagablog. I am totally intrigued, especially since I see many similarities between and I. I’m also a computer nerd who loves California (we’ll be in your neck of the woods in June [long time off, but I like to plan really far ahead]). Did you meet MMM in SF?
“One thing I’m finding post-early-retirement is that it’s actually semi-difficult to be retired young.”
I think about this every day. Those who I’ve told about it think I’m nuts. One of my neighbors knows MMM personally (I’m in Longmont) thinks we’re both nuts! So, I can see your point with all of those challenges, but I think they’ll be a lot of fun. Also, the 40-60 freed up hours every week will allow for plenty of time to think about them.
Statuette is in the mail. Think Grammy, but with a dollar sign instead of a gramophone.
We just moved to Austin, TX actually. Lots of reasons – primarily family (we have a 3 y.o. and my Mom lives there – free babysitting! along with awesome sister and her brood) but also it’s a no-tax state so establishing residency here prior to heading out on more travels is a good idea. Plus Austin is legitimately fun, if hot.
On that 3 y.o. subject – I haven’t met anyone. Prior to emancipating myself I was nearly all work all the time so didn’t get out much and then we hit the road pretty much immediately. Looking to have a different life in the future though so will hopefully meet more.
Funny how hard people work mentally to convince themselves that awesome things that might be complicated but are only a little bit hard (early retirement) are somehow crazy vs way less awesome things that are legitimately hard but simply comfortable (continuing to work).
I read a study once based on functional MRI scanning which appeared to show the pain centers of the brain lighting up in response to visualizing change. Implication being, people perceive change as pain. They’re cognitively equivalent. I’ve also seen similar studies relating loss or perception of loss (even phantom loss, like you are promised a dollar then told you’re not getting it) as pain. Same equivalence.
So perhaps the crazy view is someone seeing nothing but loss and change vs their current lifestyle and they can’t get past the pain feeling related to that, and can’t imagine what kind of person could – that kind of person must be crazy, right? Relates to your ask the readers last week I guess – perhaps motivational strategies around trauma and grief counseling, sensitively applied, might work to cope with folks who don’t get it, and I mean that seriously.
This guy wrote up the “challenges” of being retired early pretty well – I’d agree with them. Investment management, relating well to people, and time management / directed self-improvement are all the areas that become the new job – http://simple-living-in-suffolk.co.uk/2014/06/two-years-in-hows-that-early-retirement-working-out/
We’re in Colorado periodically (Boulder / Estes Park area) – next time we’re passing through I’ll see if we can’t have a low-key early retirement meet-up (aka let’s all have a picnic and throw the kids at a playground) ;-).
Cheers
Ahhh, Austin is a fine place too though. The music alone makes it worthwhile. If you enjoy camping, head out to Enchanted Rock in the Hill Country. It is pretty spectacular.
“Funny how hard people work mentally to convince themselves that awesome things that might be complicated but are only a little bit hard (early retirement) are somehow crazy vs way less awesome things that are legitimately hard but simply comfortable (continuing to work).”
That statement right there is why I encourage you to write and get your own blog up and going.
I see this same thought process in myself. The crazy thing is that I know it’s wrong. I’m coming around though.
A meet up would be awesome. If you need a place to stay, we have plenty of room too. Us FI folks can’t be spending big money on hotels and restaurants!
Don’t forget, if you hit on one of the jackpot lines, you can always rerun your calcs and adjust your spending upwards (and vice versa if you get unlucky).
Ha yeah, I like the vice versa part!!
I don’t think i’d mind splurging occasionally if i landed on that purple 17 million dollar line above =P
As long as i had enough buffer that i never have to spend the 50 hrs a week at work again.
Hey Mr. 1500,
I know I’m late to the party here – my apologies!
One quick comment on the Trinity Study.. In the conclusions section, they note that “Early retirees who anticipate long payout periods should plan on lower withdrawal rates.”
Just wanted to note that since there’s a lot of fuss over the 4% rule being the end-all be-all.
We’re shooting for 3.0-3.5%. Using FireCalc, it appears for our ‘retirement’ parameters that we’d hit 100% success rate around 3.5% even with a 48-50 year retirement (when I include SS and pensions down the line).
That will be good enough for me – my thinking is there has been bad crap going on in this world forever and but people tend to over-remember what has just happened (recency bias). If something happens where we’re the FIRST scenario to fail, my guess is the world has much bigger problems than just us worrying about our nest egg.
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4% rules seems pretty logical to me, only thing I’d change is my emergency fund size based on how crazy or paranoid I am about the 4% rule.
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Have a look at this new Kitces writeup:
http://www.kitces.com/blog/shiller-cape-market-valuation-terrible-for-market-timing-but-valuable-for-long-term-retirement-planning/
This seems to have the potential for signaling what a SWR could be based upon broader market valuations at your time of retirement. Since CAPE is currently high, it would follow that the minimum SWR these days is probably the long term standard of 4%. Interestingly, it suggests the possibility of taking a higher SWR if you retire in a time with a lower CAPE.
I want to run the numbers myself before saying I “believe” in this, but at least on the surface it makes a ton of sense.
I guess at the end of the day though, 4% is still the safe floor.
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Wow, thanks for this. It further solidifies my thinking about this. Really appreciate it.
I am surprised at the level of conservatism in these comments. I think I could sleep well with a 5% SWR. In my opinion 4% is probably the lowest SWR I would consider. I have great confidence in my ability to make money and control my spending along the way. I don’t look at early retirement as a discrete event. I plan to go to part time work and eventually flexible self employment; coasting into a 4% SWR. I mean, how difficult could it be to pick up $5 to 10k per year to tip the withdrawl rate from 4% to 3% in a bad year? By the time you are too old and unable to work, the success or failure of your retirement planning should have become apparent long ago, giving you adequate time to compensate. If you are worried about major geopolitical events or climate change, maybe you should be concentrating your efforts on doomsday prepping rather than growing your portfolio. You are all smart capable people. Have some confidence in yourself and grow a pair!
I have big money security issues. Until I had my first real job in my mid 20s, I struggled. As a kid, my parents struggled and we all lived through it.
As a result, I am a bit tweaked about money. I’m getting better, but I used to have nightmares about it.
That’s a very good information. That 4% rule is scary now haha. Thanks
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