Using the 4 Percent Rule
If you’re approaching retirement, a critical question is how much of your nest egg you can withdraw each year without running out of money. There’s no one-size-fits-all answer, but a common rule is to withdraw 4 percent in your first year of retirement, adjusting for inflation in subsequent years. It’s meant to allow your nest egg to last 30 years.
The rule has some problems, though, and isn’t guaranteed to work as expected. For one thing, it might not provide as much income as you need. Four percent of, say, a $300,000 nest egg is just $12,000. The rule’s effectiveness is also dependent on a cooperative stock market. If the market drops 30 percent right before you retire, you’ll suddenly be collecting much less.
To play it safer, consider withdrawing less than 4 percent annually. If you’re retiring late and expect your retirement to be shorter than most, you might withdraw more than 4 percent annually. In a year when the market drops, you might withdraw less, taking more in years when it booms.
Another way to lengthen the life of your nest egg is to avoid adjusting your withdrawals for inflation, on the assumption that you’ll spend less each year, growing less active as you age. Meanwhile, if you find you’re withdrawing more than your expenses require, cut back on your withdrawals. You might also skip the inflation adjustment if the market is down.
Be sure to re-evaluate your withdrawals and the size of your nest egg as you progress through retirement — especially in the early years. You want to remain on course to having your money outlast you. Don’t be afraid to seek professional advice, either — ideally, favoring fee-only advisers over those with possible conflicts of interest.
Remember, too, that you might well live a long time, and need your money to last more than 30 years. Consider being aggressive in your savings and conservative in your withdrawals, if possible. For clear and concise retirement advice, try our “Rule Your Retirement” service at Fool.com/services.