Is 4% really safe?

[Jim666]

I'm delighted to finally find a good withdrawal calculator and discussion about it. I retired early 10 years ago and we've been taking too high a withdrawal. I've been in the process for several weeks of trying to figure out what a "safe" rate is. What a great service you provide.

My first question: since the calculator doesn't adjust for taxes, can I simply estimate annual taxes and add them to the fees in the calculator?

My second question: when the calculator shows the average amount of principal left at the end, is that before adjusting for inflation?

And my third question: I keep reading here and elsewhere the default assumption that 4% is a safe initial withdrawal rate. I've traced this idea back to William Bengen's articles on the subject in the Journal of Financial Planning, beginning in 1994. That makes sense, because it must have been around 1994 that typical investment portfolios stopped producing 4-5% of actual income. In his first article, Bengen does come to a 4% "safe" withdrawal rate, but only under very narrow circumstances, including: (1) your investments are 100% tax sheltered; (2) you never increase the withdrawal except for inflation; and (3) you're willing to risk running out of money in about 30 years, which means 4% doesn't work in early retirement.

I get about the same result on FIRECalc under those assumptions. But are most people really in that situation? Most early retirees? I'm certainly not. Is 4% really safe for most people? I can't imagine being age 85, no longer able to earn money, and realizing that all that's left in my investments is enough for a couple of years' expenses.

Thanks.

Jim

[modlair]

My first post here:

1) The past 10 years had a huge equity hit in them. Year 2000-2003 was pretty ugly and may have chewed you up more than your withdrawl.

2)
>>
But are most people really in that situation? Most early retirees? I'm certainly not. Is 4% really safe for most people? I can't imagine being age 85, no longer able to earn money, and realizing that all that's left in my investments is enough for a couple of years' expenses.
>>

The operative phrase there, I think, is "most people". Most people are going to get some sort of attenuated Social Security COLAed pension at 66 or so. If you add that to Firecalc, even reducing it because of presumed cuts in SS in the future, you will see that your SWR can probably be 5% safe, not just 4%.

And a somewhat controversial point would be that if you're 85 yrs old and out of money, suicide is not beyond the realm of practical. You're not, theoretically, giving up much time in doing so.

[REWahoo]

Hello Jim, welcome to the forum. Hope your "we've been taking out too high a withdrawal" statement doesn't turn out to be a big problem for you. Each circumstance is different and it might help those wishing to respond to you if you gave us more information, such as age, sources of income, etc.

There are others here probably more qualified to answer your questions, but I'll give them a shot.

Quote:

Originally Posted by Jim666 My first question: since the calculator doesn't adjust for taxes, can I simply estimate annual taxes and add them to the fees in the calculator?

I suppose you could, but won't your individual tax bracket shift some over time? Most people have a variety of savings and investments they will be withdrawing from during retirement, and each have different tax implications that you may not be able to easily replicate using an increase in fees.

Quote:

Originally Posted by Jim666 My second question: when the calculator shows the average amount of principal left at the end, is that before adjusting for inflation?

The principal left at the end is the expected value of the portfolio mix you choose in the assumptions. There is no adjustment for inflation, only the expected return on the investments selected less what you tell FIRECalc you wish to withdraw.

Quote:

Originally Posted by Jim666 And my third question: I keep reading here and elsewhere the default assumption that 4% is a safe initial withdrawal rate. ... But are most people really in that situation? Most early retirees? I'm certainly not. Is 4% really safe for most people? I can't imagine being age 85, no longer able to earn money, and realizing that all that's left in my investments is enough for a couple of years' expenses.

You've asked "the" question. No one knows with absolute certainty that a 4% SWR is absolutely positively safe. There have been countless hours of discussion on the subject and no doubt we've only begun to scratch the surface.

Did you have a chance to read this? http://early-retirement.org/forums/i...p?topic=5572.0

I'm sure others will chime in with more and better information in response to your post.

[audreyh1]

The 4% is BEFORE taxes.* In other words, you need to pay taxes out of the 4% withdrawal.

The 4% number is a reasonable rate under most circumstances, also assuming that you have a reasonable equity/bond ratio (i.e. not all fixed income). You have the power to adjust what you are doing over time. If after a while you feel that your resources are being depleted too quickly, you can cut back. It's not like you can't figure out ahead of time that your portfolio is shrinking fast....

Audrey

[Maximillion]

Enough graphing opportunities to resolve concerns.

http://www.gummy-stuff.org/

[wabmester]

1) Yes, I just estimate taxes as part of my expenses.

2) I believe the average remaining principal is an almost meaningless number. * It's the average of all the different run's remainders. * Each individual run is for a specific timeframe, with specific investment returns, and specific inflation effects. * You can't use it to predict what you'll have left over, but you can probably use the magnitude for relative comparisons to other FIREcalc results.

3) FIREcalc is a web-based calculator based on John Greaney's excel-based calculator, which was based on the results of the Trinity Study. * That's where the famous 4% number comes from.

http://www.retireearlyhomepage.com/safewith.html

Quote:

Is 4% really safe for most people? I can't imagine being age 85, no longer able to earn money, and realizing that all that's left in my investments is enough for a couple of years' expenses.

Time for a bit of a reality check here! - Wouldn't you suspect that you were running a little short of cash long before age 85? - The truth of the matter here is that you would cut way back on your spending long before (probably 20 years) you hit age 85. Spending reduction is the most powerful tool that you have! - Play with the numbers and you'll see.

Also, remember that the 4% is a historical worst case number. If your plan stretches out for 40 years, you can evaluate your situation in 20 years and probably find that the 'historical worst case' was not duplicated. (e.g. Crash of 1929 and Depression of the 30's)

Another reality check - Most of us will never live past age 80! - You'll most likely die with a pile of Cash, if that makes you feel better!

So if you want to worry, worry about your health. I can guarantee you that it will deteriorate!

[Jim666]

Thanks for the great replies. Looks like I've got some new reading to do.

I'm 64, and my wife's 56. Our capital isn't our only source of income in retirement, but it's an important one. I know I'm pretty conservative on this. I know there are no guarantees, but I figure my wife could easily live another 40 years, and I want a rate that would have us survive 100% of historical periods. And since I inherited part of our capital, I want to leave at least that much for our kids.

So figuring in our average taxes and fees, I come to about a 3% initial rate of withdrawal. That means cutting our expenses, which isn't easy. But worth it to me to improve the odds of financial stability down the road. And I agree with those who've said that we can always cut again if necessary, although that gets harder as you get older and have less flexibility in changing lifestyle.

Again, thanks.

Jim

[2B]

There's a certain logic to living below what you think your means are but it's also a good idea to reevaluate frequently.* I started a post here a few weeks ago about an article that recommended up to a 6.2% withdrawal rate with annual rules for adjustments both up and down.

That is aggressive in the mind of most of the members of this board but my goal is not to leave $6.4 MM to my heirs after spending 20 years eating oatmeal for every meal.

One suggestion I really liked was to adjust Dory's calculator.* Enter your absolute minimum living expenses in FIRECalc as your "Withdrawals."* Plug in the rest of the numbers however you see fit but down in the area of "annual investment expenses" (defaulted at 0.18%) put in 3.18%.* That would simulate an extra 3% from your portfolio for a total SWR of 7%.* In good years you take the "expenses" and take a trip or buy that recent model used car.* In bad years you don't.

It puts more flexibility into the plan and allows you to use your greatest weapon in retirement -- cutting expenses!

[youbet]

Jim666:

A few quick thoughts regarding withdrawal rates......

1.* Definitely go back to the Retire Early site and download the Excel spreadsheet and work with that.* You'll get almost identical results but will focus only on the withdrawal rate, time period and capital investment related data leaving other issues such as SS, pensions, home sales, etc., to be part of your total retirement budgeting process.

2.* Always remember that the 4% withdrawal rate, as discussed on this site, is the result of testing various withdrawal rates and asset allocation scenarios over historical time periods.* It is not intended to be an accurate predictor of the future.* Historically, the two worse times to retire were 1929 (77 years ago) and 1965 (40 years ago).* IMHO, it's reasonable to project another of those "bad" periods coming in the not too distant future.

3.* Beware of averages!* Don't confuse "average" with "most likely outcome."* Expect and plan for significant variation and swings.

4.* What you need and what you get are independent events.* Many folks tend to blend the retirement budgeting process with the process of calculating a SWR.* Bad idea.* Whether investment income is used to fund only "extras," such as travel, in retirement or whether it is used to pay for life's essentials is not moot.

5.* Obtaining the investment returns assumed in SWR calculators isn't a slam-dunk.* You must rigorously follow a diversified, low expense strategy.* It doesn't have to be complicated, but it does have to be disciplined.

Jim, your insight into the issue of cutting back on expenses is right on.* I appreciate the fact that lots of folks on this site need a SWR well under 4% to meet their minimum budget.* They withdraw 4% and enjoy travel, luxury cars, etc.* If 4% turns out to be too much over the time period they're concerned about, they can easily cut back.* Not everyone is going to have that kind of slack in their budgets.* And I agree with you, as one ages it becomes more difficult to change, especially if the changes will detiorate one's basic lifestyle.

Good luck!

youbet*

[cute fuzzy bunny]

I hate oversimplifying but...

- Do your calculations out the wazoo to see that you're in the ballpark to retire. Unless you have a short horizon, are discounting the plausibility of a rerun of the great depression, or are pretty sure you "know something" (good luck), if you're in the 3-5% range you're good. Higher than that, you might be in trouble. Lower than that, no problem.

- Spend your money and enjoy your life, unless your spending goes nutty vs what you planned for, forget step #1

- If theres a huge downturn, like the one you might have discounted in step 1, spend a little less or get a part time job doing something silly and fun that pays a little. When that downturn stops, return to step #2.

[2B]

The health issue is more important than anything else.* Cut-Throat made the correct statement that most of us won't live past 80.* My parents died at 65 and 79 but both were heavy smokers until my mother developed lung cancer.* My in-laws are both alive at 85.* However, their expenses are next to nothing versus what they used to spend.* Their health is also failing.* I'm expecting them to not outlive their money.* Unfortunately, they have both outlived their ability to manage what little they have left.

[youbet]

Good clarification CT.* Yes, both the 1929 and 1965 periods are tested in Firecalc and 4% survives.*

I think the point I was trying to make, and didn't quite, is that it seems so many folks like to assume "average" returns and inflation levels as being probable for them.* In fact, something significantly better or worse than "average" is most probable.* History has shown significant variation around the mean for both equity returns and inflation.* A 10, 20 or 30 year retirement period is likely to see better or worse financial results than average.

A 4% SWR protects us from portfolio depletion given an asset allocation, withdrawal time period and expense level if the future reasonably reflects the past.* If our personal portion of the future yields results above average, we'll likely leave money on the table.* If our personal portion of the future yields results below average, our funeral expenses will likely zero us out.* Any one of us is not likely to get exactly average results.*

The price for chosing a 4%, or lower, SWR is that you might leave money on the table. The reward is that you can withdraw that amount, in real dollars, for 30 years with close to no risk if you invest according to the assumptions and, historically, we've already seen the worse of times.

You place your money, you make your bet.

* *

[modlair]

I would like to offer a general impression that there is way too much conservatism going on in the world of SWR.

From this perspective:

It is no less a failure to find oneself on one's deathbed with $10 million in portfolio after spending a lifetime denying oneself luxuries and pleasures than to find oneself out of money a year before death.

In fact, I'll venture forth with the suggestion that it is a GREATER failure to have underspent than overspent. If you underspend, you denied yourself years or decades of pleasure. If you overspend, you will be miserable for a very short time before death -- and you have total control over how long.

Two budget suggestions. 1) At age 65/65, the entry to Firecalc should not be just an estimated SS pension. It should also include a reduction in medical expenses from the arrival of some magnitude of Medicare. Also, you can make a case for Senior Discounts saving you maybe $1000 in 2006 dollars per year. 2) If you own a car, its annual depreciation is an expense. Doesn't matter if it breaks or not or if you drive it and consume gas. It's annual depreciation is an often overlooked expense.

[Spanky]

Quote:

Originally Posted by 2B That is aggressive in the mind of most of the members of this board but my goal is not to leave $6.4 MM to my heirs after spending 20 years eating oatmeal for every meal.

Are you planning to leave them something? Eating oatmeal is good for reducing cholesterol level. I eat oatmeal every morning.

[wabmester]

Quote:

Originally Posted by Cut-Throat Also remember that the 4% has already factored in that one of these periods will occur. For the withdrawal percentage to be less than 4%. A period would have to be worse the the Depression of the 1930's or the Inflation and slow growth late 60's to late 70's.

You can't take those Bad Times out of context like that. You have to look at the entire N year sequence. For example, a 30 year sequence that includes the Great Depression probably also includes the post-war boom. And a sequence that includes the Great Stagflation probably also includes the incredible tech boom of the 80's and 90's.

So, you don't need events worse than those Bad Times to drop below 4%, you simply need a pretty bad stretch that doesn't include a huge run-up. You know, like the coming post-baby-boom slow-down that everyone is predicting....

[Nords]

C'mon, guys. *Saving for ER is not supposed to be a graduate degree exercise in deprivation. *Living in ER is also not deprivation. *I happen to like oatmeal but we also made sure that we have plenty of spending room in our 4% withdrawals to have Nigella come over to cook an occasional meal if we feel like it.

If the concern over 4% being too aggressive is because the ER portfolio only supports a barebones subsistence oatmeal-filled existence, then the ER portfolio is undercapitalized because the budget is inaccurate. *

If the concern over 4% being too conservative is because there's "too much money", then why not spend a portion of the overage, get your gimmes out of the way, and bank the rest for a surprise or an emergency? *WSJ mentions having to support elderly parents or assist a divorced daughter. *We're not talking about paying people to eat bonbons & watch TV, we're talking about helping them pay their rent and their grocery bills.

Quote:

Originally Posted by rodmail It is no less a failure to find oneself on one's deathbed with $10 million in portfolio after spending a lifetime denying oneself luxuries and pleasures than to find oneself out of money a year before death.

I'd have to say that since the "penalty" for the first type of "failure" is so much less severe than the second that it hardly qualifies for the meaning of the word. *In the first case we have what I would have to characterize as maudlin regrets. *In the second we're too busy trying to avoid starvation to get all maudlin about the good times.

Look over Bud Hebeler's "Analyze Now!" website for his stories of SS widows who wish their deceased spouses had retired with a bit more portfolio or waited a bit longer on SS or spent a little more conservatively during retirement. *Many are in their 80s and in what they'd term as regrettably good health.

Quote:

Originally Posted by rodmail Two budget suggestions. * 1) At age 65/65, the entry to Firecalc should not be just an estimated SS pension. *It should also include a reduction in medical expenses from the arrival of some magnitude of Medicare. *Also, you can make a case for Senior Discounts saving you maybe $1000 in 2006 dollars per year.

I guess we'll also have to factor in the monthly premiums that we're paying for that "magnitude of Medicare." *(Great sound bite.)

Those of you receiving SS-- do your Medicare premiums get deducted before you see the SS deposit or are they taken out some other way? *In other words, if I know I'm getting an $800/month SS check, should I assume that it's $800 in my bank account (because the premium has already been deducted) or only $734 in my account (after a $66 premium deduction)? *Or whatever the Medicare monthly premium is, I don't know the number.

I'm astounded at how we nitpick FIRECalc for its historical failure to predict the future and then calmly predict our own healthcare expenses, despite Greaney's personal explosion in healthcare costs and the media's documented rise in prescription costs. *

As for "Senior Discounts", my FIL has been taking them for years and says that they're worth a heckuva lot less than $1000. *He estimates it's only a couple percent off your entertainment spending. *And there's no senior discount of mortgage or utility or grocery bills!

Jarhead, how much money are you pocketing for your senior discounts? *I'm not talking about taking skins off the younger, foolishly aggressive golfers, either!

[unclemick]

Hmmm

Sometimes I miss the perverse joy of being a really cheap bastard.

Having to hurry up and spend money cause of not getting any younger is sometimes painful.

heh heh heh

[Spanky]

Quote:

It is no less a failure to find oneself on one's deathbed with $10 million in portfolio after spending a lifetime denying oneself luxuries and pleasures than to find oneself out of money a year before death.

Neither one is a failure. One does not need to live in luxuries to live a fulfilling life. One does not need to spend a lot of money to have pleasure. I derive a great deal of pleasure watching the sun rise, sun set, and the brilliant stars above, walking in the park, riding my bike, etc, as opposed to visiting exotic places, watching expensive Broadway shows, concerts, sport games, staying at 5-star hotels, dining at 5-star restaurants, and purchasing unnecessary stuffs or toys. Just live each day with gratitude, take care of your health, engage in interesting activities (something that you enjoy doing or stimulating), take time to meditate, invest wisely and spend sensibly. My two cents worth.

[REWahoo]

Quote:

Originally Posted by Nords Jarhead, how much money are you pocketing for your senior discounts? I'm not talking about taking skins off the younger, foolishly aggressive golfers, either!

C'mon Nords, if Jarhead had to leave his experience income ("I'll give you young punks an experience that will improve my income") out of his retirement spending he couldn't even afford oatmeal!