Very often, we’ll get the question from a retired client something along the lines of “How much can I take from my portfolio?” or “Is it safe for me to take this?” These are completely reasonable questions,because the client has spent a lifetime accumulating funds with the hopes that they will be able to use them in retirement in the way that they wish.
I’m giving away some financial advisor advice here,but if I have to answer this question quickly, I’ll use something called the“4% rule”. You may have heard of it; it’s simply suggesting that one can plan to take a payout of 4% of their asset base at retirement and expect to have their money last throughout their lifetimes. If one has $1 million (to make my math simple), they could expect to start taking $40,000 in payout annually,adjusting for inflation.
“But won’t I earn more than 4%? That seems low.”
It’s possible that you’ll earn more than 4% over the long run, yes. But that 4% number accounts for inflation, recognizing that in 25 years it will likely require you to be taking $80,000 annually to get the same purchasing power as $40,000 today.
This is a great tool for just having a basic directional idea as to whether you are on track. If you can estimate your sources of income like social security and pensions, assign inflation numbers to them and planned expenses with inflation numbers (for example we use 2% for social security and 3% planned expenses), you can get an idea of what your annual income shortfall is. Multiply that number by 25 and you will arrive at a really rough lump sum number that would be able to generate 4% payout. If you have that or are on track for that you should be headed in the right direction.
However, there is nuance, and reasons why there are no hard and fast rules. Sometimes if we have a conversation with a client, they think that this is a rule that cannot be broken, that 4% is a hard limit. Here are a few examples of situations that might violate the “rule”:
You may be in a situation where you have retired at age 59. Social Security won’t start until at least age 62 and you have health insurance costs until 65 when Medicare picks up. Your payout needs might exceed 4% between ages 59-65 because you need to cover what Social Security isn’t andyour health insurance expense. Maybe that’s a 6%-8% payout rate and you are spending principal down. However, it’s possible that’s OK, particularly if when Social Security and Medicare do start, you need significantly less than the 4% payout rate. If retiring early is important, it’s possible you can violate this “rule”.
Similarly, maybe you want to travel while you are a young enough and healthy enough retiree to do so. For many clients we will factor in an extra travel expense for the first 5-10 years of retirement, which may require them to violate the “rule”. Again, if expenses can be lowered later, it could be OK, especially if you do this with your eyes open.
Another example could be a one-time “violation” like a home remodel or vehicle purchase, etc., or if you still have a mortgage payment that will only last for a finite number of years into retirement.
Perhaps you have an expectation that even as a retiree you will still inherit funds from parents in your future. Depending on your certainty, you could spend more of your money early in retirement while you have your health based on that expectation.
Maybe you are quite certain neither of you will live past age 85 and you are not overly concerned about passing money on. It may be OK to spend your money down more aggressively, as long again as you do so with your eyes open.
The same rationale can be used for gifting your money during your lifetimes if that’s important to you. It could be OK to spend your money down or gift it down, as long as your funds last as long as you do.
We help clients run scenarios and make decisions like these every day and on an ongoing basis. We can use rules of thumb as starting point, but we don’t apply them as rules – every client is different with a different situation, different values and different priorities.Together, we can work to keep you on-track towards your financial goals.
Request a consultation with us to learn more.
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