The urge to conquer the world is typically strongest in the first few years of retirement. You’re likely the healthiest you’ll be in retirement, and with the highest level of savings. But, as you plan for what’s next it’s important to remind yourself that retirement isn’t a race. It’s a marathon. The goal is to find a happy medium between preserving your money but not so frugally you can’t enjoy life. To do that, you need a safe withdrawal rate.
Safe withdrawal rates differ for everyone. It’s a major reason why retirement planning is difficult to do on your own. The percentage of your savings that can be sustainably spent each year in retirement depends on many personal factors: your level of wealth, annual expenses, sources of guaranteed income(pensions, Social Security, etc.), retirement age and market conditions.
Yet, there is one rule that everyone should follow. It allows you to better protect your money when times are bad, and enjoy life more when times are good. First, however, let’s go over how to determine a safe withdrawal rate that’s right for you.
A safe withdrawal rate that’s specific to you
Determining an accurate withdrawal rate from your retirement accounts and other savings isn’t as easy as just plugging a few numbers into a retirement calculator. While online retirement calculators can be useful for basic planning purposes, they have limitations.
For one, they don’t always allow you to incorporate specific personal details, such as your retirement goals or your spouse’s financial situation. Further, they tend to make calculations based on general assumptions for everything from market returns and inflation to your life expectancy.
That’s why calculating a safe withdrawal rate that’s specific to you is best done under the guidance of a professional. Financial advisers, for example, can provide detailed assessments in a comprehensive financial plan by using financial planning software. These programs run thousands of simulations to show how your portfolio would hold up under a variety of scenarios. You can learn the probability of your portfolio surviving under different rates and then choose one you’re most comfortable with.
Plus, a calculator isn’t going to build a personal relationship with you. It won’t learn and help guide your financial behaviors, your strengths and weaknesses when it comes to money, or your hopes and fears for the future.
What about the “4% rule”?
A common rule of thumb you may have heard of is the so-called “4% rule.” This rule suggests a retirement portfolio comprised of 50% stocks and 50% bonds should last 30 years if you withdraw 4% in your first year of retirement and then adjust that percentage annually for inflation.
While the 4% rule is a good starting point during the retirement planning process, there are reasons why it shouldn’t be considered a steadfast rule. For one, this rule was created using historical data, so it may no longer work under future market conditions when you retire.
Also, it’s detached from your personal situation. A 4% withdrawal rate, depending on the size of your portfolio, may be too low and could leave you living life more frugally than necessary. Perhaps most important, your personal needs may unexpectedly change during retirement.
The rule everyone should follow
Because of the capriciousness of life and capital markets, it’s better to have a flexible withdrawal rate. No matter what you determine your safe withdrawal rate to be, you should be willing to change it as personal and market conditions change.
Essentially, you allow yourself to withdraw a little more some years and less other years. One year, you might increase your rate to take that overseas vacation or remodel your home. Then, you may choose to reduce it during a prolonged bear market (as long as your necessary expenses are covered). Over time, your average withdrawal rate will likely match the rate recommended by your adviser.
A balanced and well-diversified portfolio should provide the growth and preservation over the long term. It’s a flexible withdrawal rate that will then help improve the likelihood you have a safe AND enjoyable retirement.