4% Rule Revisited – I Want A Raise!

by Mike Holman

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Recently I wrote about the 4% withdrawal rule which is a guide for safe portfolio withdrawals in retirement. To reiterate, the basic rule is that you withdraw 4% of the portfolio in the first year of retirement and then every year afterwards you withdraw the amount you took out the previous year plus inflation.

Bill Bengen who was the “creator” of the 4% rule no longer uses it in his financial advisory practice. The problem with the 4% rule (actually the 4.2%) rule is that while it does accomplish the goal of ensuring that an investor who follows the rule will not likely outlive their money – if the portfolio performance is better than expected, then the calculated withdrawals will be too conservative and might end up almost guaranteeing that the investor dies (at an old age) with a large amount of money remaining which might not be what was intended.

Bengen’s new strategy is as follows:

Flexibility is factored into Bengen’s revised approach, which permits withdrawals to fluctuate within guidelines. His “floor-and-ceiling strategy” suggests that an initial withdrawal rate of 5.16% would be appropriate if a retiree pares back subsequent withdrawals by as much as 10% of the initial withdrawal during hard times (the floor). On the other hand, a retiree could withdraw extra cash equaling up to 25% of the first-year withdrawal (the ceiling) when the market is strong. The starting rate would vary depending on how much volatility a retiree could stomach. (More details on his research are at billbengen.com.)

He does add that there is no “absolute solution” and that “In general, I think you are better off planning conservatively initially because you can always make adjustments later.”

William J. Bernstein who is a big fan of the 4% rule, also talks about withdrawing a fixed percentage of the portfolio each year instead of a fixed amount based on the first year withdrawal plus inflation. This is the ultimate in flexible withdrawals but the problem as he notes is that the withdrawal amounts can vary by a large amount each year due to market fluctuations. As Bernstein aptly puts it “Keep a few cans of Alpo in the cupboard if you decide to go this route.”

I’ve always been a fan of being flexible with withdrawal rates so I like the idea that maybe the rigid 4% rule is a bit too rigid. I’m thinking of having a retirement plan where I start with a withdrawal rate of 5% and be flexible depending on the markets. One way to be able to do this is to have a fair bit of “extra” money built into your retirement scenario. For example if you are planning to retire with $50k per year (in today’s dollars) but $15k of that is for traveling and “extra spending” then if the markets tank, you could potentially cut your withdrawals down to $35k and maintain your basic standard of living. On the flip side, if the markets have a sustained rally in the beginning of your retirement then you can probably spend a bit extra. I think the key to handle that situation is to spend the bonus money on one time only costs such as vacations, renos, gifts etc. If you start buying more expensive houses or cars then those items will leave you with higher costs for a long time.

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{ 14 comments… read them below or add one }

1 Mr. Cheap

I’m always a little worried about retirement plans that require “tweaking” as you go. Eventually you’ll hit the point where its hard to make adjustments (you may lose the mental capacity to do so). Perhaps its fine if you have things setup at that point (maybe living at your “floor” rate in an assisted living facility) or you can have someone you trust make adjustments for you…

I’d rather just have a set, simple plan (I like Bernstein’s), and if I end up leaving a pile of cash, I’ll just have it converted to gold upon my death and buried with me (to pay off all the gods I’ve offended)

2 Four Pillars

The problem is that I don’t think there is a withdrawal plan that a) isn’t too conservative and b) doesn’t require tweaking.

I don’t know what to do about the whole mental capacity thing…

One suggestion I’ve read is to buy an annuity when you are older (ie 70+) for part of your income needs ( maybe the absolute basics) – this takes the pressure off a bit.

3 plonkee

In the UK you almost have to buy an annuity by the time you’re 75 (to stop you spending all the money and relying on the state instead). I may do this when I retire anyway for my basic expenses, and just do withdrawal for all the fun things.

4 The Reverend

is the 4% rule based on retirement at age 65?
what about 60, 55, 50?

5 Four Pillars

Rev – in Bernstein’s research he used a lot of 25 to 35 year periods which are pretty valid for most early retirees.

I’m going from memory here but I think his logic was that once you get to a certain time length of retirement then the withdrawal rates can be considered valid indefinitely. For example if the 4% rule works for a 30 year retirement then if you are planning for a 60 year retirement then you can either still use the 4% rule or adjust it just a bit ie make it a 3.5% rule. You don’t have to cut the withdrawals in half just because you double the retirement length – as long as you are dealing with longer time intervals.

That said Bernstein’s work has more to do with normal retirement (ie 35 yr max) than early retirement. I’d love to hear from any of you who have more (and better) thoughts on this.

6 Canadian Capitalist

My plan is conservative. I’m assuming a 3% withdrawal rate which I think is solid but not bulletproof (is anything?). But mostly, I plan on being flexible. Markets stink? I’ll work a bit longer or find some part time gig. The market gods are benevolent? I’ll retire early, if I want to. I’m not too hung up on a precise retirement plan. 20 years is a long time. There can be any number of changes including in ourselves.

7 Canadian Dream

I don’t know why we make this so complex. The rule is as follows: live below your means even in retirement.

If markets are up, ok take that extra vacation. If they suck go camping this year. Easy.


8 The Hoss

Boy, am I glad I have a company pension, Canadian Pension and soon old age security. That along with the income splitting tax law permits me and Mrs Hoss to live comfortably and enjoy our retirement without worrying about any rules.

9 Four Pillars

CC – 3% is indeed conservative. The drawback to being more conservative is that you will have to work longer or save more or live on less in retirement (or some combination).

For any given income, you will need 33% more money in the portfolio compared to someone with a 4% withdrawal rate. This is pretty significant.

Being flexible is key.

CD – Lol – that pretty much sums it up!

The Hoss – enjoy your retirement!

10 DividendMan

Boo to this. Just generate enough income to live and don’t withdraw anything. When you die, your will takes care of it!

You can’t outlive your money if you’re making enough to live off of!

11 Four Pillars

DividendMan – that sounds like a great plan except that I’d have to work until I’m 82 before I’m in that position!

12 Shevy

Most of this discussion is based on having your retirement money still invested in the market after you’ve retired.

But if you have that money in a safe investment (or series of safe investments) so that your principal won’t decline and you take out 4% you will be guaranteed that you can do that for at least 25 years. Depending on the rate of interest you receive, the money may last a little longer than 25 years or considerably longer. (It also depends on when in the timeline the interest rates are higher, with it being to your advantage to have high interest in the first few years, rather than having rates improve 20 years in.)

The problem with this scenario is that it depends on you retiring at 65 and only being guaranteed your income until age 90. What if you live to 100? Better hope you were getting a good interest rate! But I still think it’s better than gambling your entire retirement fund on the market and you know you won’t end up eating Alpo! (Well, not until you’re over 90 anyway.)

Note that this method does not leave your kids a big inheritance. If that’s your preference then you need a whole different strategy and a lot more money in your retirement fund.

13 Retired Syd

I just posted a couple weeks ago about this very topic. According to Bengen, the safe rate to last 33 years in retirement is 4% — if you need it to last 50 years (retiring younger) you can only withdraw 3%.

Historically, there have been many 50 year periods though, where a 4% rate would have worked, but you would have been absolutely safe during any 50-year period at 3%. Whatever makes you comfortable within those guidelines . . .

14 Hydrogen Bob

Hey asset allocators. If you have a $1M portfolio of ETFs, say 40% bonds, 60% equities, the equities yield 1.8%, the bonds 3.8%, your income yield will be about 3%. So you collect the 3%, and rebalance the portofolio liquidating 1% of it. As equities rise in vaue and dividends are incremented, you may not experience significant erosion of your portfolio over the long term.

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