What is the 4% Rule for Early Retirement & How Can it Help You?

By Sara

-

Last Updated: December 14, 2022

Share

If you've ever read an article about someone who retires early and questions how they did it, they probably used the 4% rule.

Early retirees follow this rule, allowing them to have a retirement number that will help them live their lifestyle and retire early. The rule is one way to make sure you have enough money to last throughout retirement.

It states that you should take out no more than 4% of your retirement savings each year to ensure that your retirement funds last. This rule, written by William Bengen, is based on the idea that your funds will grow over time, even if you are taking out money from your accounts. 

 

What is the 4% rule? 

The 4% rule is a retirement planning strategy that was developed in the early 1990s by William Bengen, a certified financial planner.

The rule states that retirees should withdraw 4% of their retirement savings in their first year of retirement. After that first year, the withdrawal amount should be increased by the inflation amount each year.

If a retiree withdraws 4% of their savings each year, they will still have enough money to last them through retirement because their accounts will continue to grow. 

This rule is more of a guideline than a certain rule. It assumes that a retiree will have the average life expectancy and that the individual invested will have a 5-7% return. This return rate is very reasonable, but some years it can be more while other years it can be less.

Most early retirees invest their money in Index funds for a diversified portfolio. 

 

Considerations for the 4% rule 

The 4% rule is a great way to make sure that you will have enough money for retirement. By following it, you can make sure that your retirement savings will last for the entirety of your retirement.

Additionally, you will be able to have more flexibility in your retirement plans. For example, if you only need to take out 3% of your savings each year, you'll have more money to use for other things, such as travel or hobbies. 

Of course, there are some downsides to the 4% rule. The rule assumes that your retirement savings will grow over time. Unfortunately, this isn't always the case, and there is no guarantee that your savings will grow at the rate you need them to.

Another point is that the rule only applies to retirement funds and does not consider other income sources such as Social Security or pensions. 

 

How to calculate your retirement number using the 4% rule 

Calculating your retirement number based on the 4% rule is relatively simple.

First, calculate the amount of money you will need to live off of each year in retirement.

This number should include all expenses, including:

  • housing
  • food
  • transportation
  • healthcare
  • any other expenses you anticipate having in retirement

You'll have a better idea about this first number if you track your spending.

Next, multiply the annual amount you need to live off of by 25 to get your total retirement number.

This number represents the amount of money you will need to save up to ensure that you have enough money to last you throughout your retirement years. 

For example, if you estimate that you need $50,000 each year to live off of in retirement, then your retirement number is $1,250,000 ($50,000 x 25). This is the amount of money you would need to save up to ensure that you can withdraw 4% ($50,000) each year and still have enough money to last you through retirement.

Early retirees find out this number and save as much as possible to hit this amount in their portfolio as fast as possible. 

The 4% rule is a good starting point for retirement planning, but it is important to keep in mind that everyone's situation is different. You may need more or less money to save up to meet your lifestyle and retirement goals.

You will also need to factor in inflation and other possible economic changes that can impact the amount you will need for retirement. 

 

 

Final Thoughts 

The 4% rule is a great way to ensure that you have enough money to last through retirement.

Calculating your retirement number is easy with this rule and can help you get to retirement faster than you previously would have thought.

Always do your own research and think of all the factors that could impact your retirement - you may want to plan to need more money and just withdraw less in retirement to have more peace of mind. 

Photo by Los Muertos Crew

YOU MIGHT ALSO LIKE

Leave a Reply

Your email address will not be published. Required fields are marked *

This site is protected by reCAPTCHA and the Google Privacy Policy and Terms of Service apply.

LATEST

Subscribe for daily financial content

Daily articles, financial messages and affirmations to best help you navigate your financial future.