Rethinking the 4% Rule

Using a generic rule of thumb to calculate retirement withdrawals isn't nearly as helpful as a spending plan tailored to your situation.

If you've ever spent time contemplating the size of your nest egg, you've probably heard of the 4% rule. This staple of retirement planning stipulates you can withdraw 4% of your portfolio in the first year in retirement—and adjust it annually for inflation thereafter—with a close to 100% probability it'll last 30 years.

We're all for making income planning easier, but the 4% rule relies on several assumptions that may or may not apply to you, including:

  • Future returns will be on par with past returns. On the contrary, analysts at Charles Schwab Investment Advisory, Inc., project that future market returns for both stocks and bonds are likely to be lower than historical averages. While such an outcome is far from certain, it's generally more constructive to use timely, forward-looking projections of potential portfolio returns rather than past returns.
  • Your portfolio composition will remain static. The rule assumes a hypothetical portfolio of 50% stocks and 50% bonds; however, if your asset allocation differs or changes over time, the 4% rule won't accurately reflect your situation.
  • Your withdrawal plan will never change. As market conditions fluctuate, so may your spending. A withdrawal rate of 4%—or more with each inflation-adjusted annual increase—may be especially pernicious during a down market.

A personalized approach

Instead of following guidance that doesn't account for individual circumstances or changing market conditions, we suggest adopting a spending rate tailored to your life expectancy, investments, and risk tolerance—one that can be regularly updated as your situation and the economic environment change.

Whether you're still working or already retired, you can determine your personalized spending rate by asking yourself:

  • How long will my retirement last? No one can accurately predict how long they'll live, but to get a general idea, consider your current age, your health, your family history, and the latest findings from the field of actuarial science.
  • What's my risk tolerance? It's important to have enough of an allocation to stocks to provide potential future growth—but not so much exposure that it exceeds your risk tolerance. Research shows that our pain from losses greatly exceeds our pleasure from gains, so choose an asset-allocation strategy you'll be comfortable with even during a down market.
  • How much uncertainty can I handle? Most of us don't need 100% certainty that our portfolio will last 30 years. If you regularly revisit your plan and can adjust as conditions change, the 75% to 90% range may be sufficient.

Depending on your answers to the questions above, your withdrawal rate can be substantially above or below the 4% rule.

The you rule

Your withdrawal rate should be based on your anticipated time horizon, an appropriate asset allocation mix, and how confident you want to feel that your portfolio will last as long as you need it to.

If you have other guaranteed income sources, such as a pension or an annuity—or if you're open to adjusting your withdrawal rate in response to market performance—you might consider choosing a higher initial withdrawal rate. If you want to be more cautious or have fewer nonportfolio income sources, a lower withdrawal rate may be more appropriate.

Time horizon  Asset allocation  Initial withdrawal rate
(for a 90% to 75% confidence level)
30 years  Moderate
(60% stocks / 40% bonds and cash) 
3.8% to 4.4%
20 years  Moderately conservative
(40% stocks / 60% bonds and cash) 
5.4% to 5.9%
10 years  Conservative
(20% stocks / 80% bonds and cash) 
10.2% to 10.6%

Stay flexible

Even the best-laid plans can go awry, so it's important to build flexibility into your retirement-spending plan. For example, if you're able to reduce withdrawals during a down market—such as by skipping the inflation adjustment or cutting back on nonessential spending—you'll significantly increase the likelihood your money will last as long as you do.

No matter where you are in your retirement journey, consider consulting a qualified financial planner or advisor who can help you create—and regularly update—a withdrawal plan even more tailored to your needs.

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The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness, or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

Diversification and asset allocation strategies do not ensure a profit and do not protect against losses in declining markets.

Annuity guarantees are subject to the financial strength and claims-paying ability of the issuing insurance company.

Investing involves risk, including loss of principal.