Ideally, you'll enter retirement with a decent amount of money socked away in a savings plan. And from there, it'll be on you to manage that money wisely to ensure that it doesn't run out on you.
To that end, you may be inspired to follow the 4% rule. The rule states that you should withdraw 4% of your savings balance your first year of retirement, and from there, adjust future withdrawals for inflation. If you stick to the rule, there's a strong chance your savings will last for 30 years, which gives you a pretty good cushion.
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For a while, the 4% rule fell out of favor due to the fact that bonds weren't paying as much interest as they were back when the rule was established. But more recently, financial experts have begun to adopt it again.
If you're wondering whether the 4% rule is a good one to follow, it pays to run through these key questions:
1. How is my portfolio invested?
The 4% rule assumes that you have a fairly even mix of stocks and bonds in your portfolio. If that's not the case, then the rule may not be a good one for you to adhere to.
Maybe you have well more than 50% of your portfolio invested in bonds because you're someone who's risk-averse and wants to hold stocks minimally as a retiree. In that case, based on the growth your portfolio has the potential to generate, a 4% withdrawal rate may be too aggressive.
2. How long do I think my money needs to last?
The 4% rule is designed to help your savings last for 30 years. But what if that's not necessary for you?
Maybe you loved your job so much that you decided to work full-time until your mid-70s. In that case, you may retiring roughly 10 years later than the typical senior, which means your money may not need to last as long. And if so, you might easily get away with a 5% or 6% withdrawal rate -- or higher.
On the flipside, if you've retired early, 4% may be too aggressive a withdrawal rate. You may need to scale back if you expect to need your savings to last 35 to 40 years, as opposed to just 30.
3. What supplemental income do I have?
Some retirees opt to continue working part-time to not only generate income, but keep busy. If you're earning a large enough paycheck from a job, then you may not need to withdraw 4% of your savings balance to cover your expenses. In that case, you might as well leave that money in your retirement plan so it can continue to grow.
4. Will I be better off keeping my withdrawal rate flexible?
The 4% rule does allow you to adjust withdrawals for inflation, but it basically has you committing to a set withdrawal rate throughout your senior years. You may, however, find that a more flexible approach to your retirement account is better for you.
For example, you may want to front load some spending to travel while you're in good health. So in that case, you may decide to take 6% to 7% out of your savings for a few years early on in retirement, but then scale back.
Similarly, you may want to start off with more conservative withdrawals from savings to reserve money later on for long-term care. So in that case, you may decide to start by only withdrawing 2% or 3% of your account balance and then gradually increase that percentage.
The 4% rule is a good starting point if you're trying to manage your retirement savings in a savvy manner. But do know that you're not doomed to run out of money if you don't follow the 4% rule. There may be another approach that works better for you and allows you to enjoy your senior years without putting your long-term financial security at risk.
