The four percent rule, in the simplest of terms, and helps in determining the amount of funds that a retired person should withdraw from their retirement account every year. The rule helps a retiree to have a constant stream of funds, by also allowing an account number that will permit funds to be withdrawn for a couple of years. According to experts, four percent is a very safe rate because the withdrawals consist of dividends and interest. It is advised that the withdrawal rate remain constant, though it can be tweaked according to the inflation rates.
Understanding the Four Percent Rule
The four percent rule helps retirees and financial experts to limit their financial portfolio’s withdrawal rate. In order to comprehend the sustainability of the rate, it is important to take the life expectancy of an individual into account. The reason behind this is that people, who will live for longer, will need to have a portfolio that will last them for a longer time. One must also keep into mind that as a person grows older, their expenses and medical costs also increase.
How the Four Percent Rule Can Work For You
There are a number of variables involved when it comes to understanding the four percent rule. In order to make it work, people need to make a few adjustments. Here’s how:
Don’t Change All Your Savings into Bonds
You should have a diverse portfolio, and keep at least some of the assets in stocks, so that your assets grow with the passage of time. It is recommended that you have a 60-40 split between stocks and bonds.
Stay Diverse to Reduce Risk
It is wise to invest in international stocks in order to stay diverse, and to boost the returns. A globally diverse portfolio reduces risk as well, which is great.
Don’t Overspend
There will be times when you will get greater returns. It is important to stick to the plan, and resist the urge to overspend so that you can limit yourself to the discipline.
Take the Help of a Financial Advisor
A financial advisor can help you in understanding what withdrawal strategy will work best for you.
Further Reading
- The case for four percent inflation – www.econstor.eu [PDF]
- Beyond the Four Percent Solution: explaining the consequences of China's rise – www.tandfonline.com [PDF]
- The 4 percent rule is not safe in a low-yield world – papers.ssrn.com [PDF]
- Fiscal rules: Theoretical issues and historical experiences – www.nber.org [PDF]
- Economic and monetary union in Europe – www.aeaweb.org [PDF]
- Restraining yourself: the implications of fiscal rules for economic stabilization – link.springer.com [PDF]
- Keeping it simple: Financial literacy and rules of thumb – www.aeaweb.org [PDF]
- The “five percent rule” for improved water service: can households afford more? – www.sciencedirect.com [PDF]
