TIPS for Dummies

[JohnEyles]

If tips are paying 2.5% over inflation, how can you safely withdraw 4%.

You can't, if you want your 4% income to last forever - that is, as Ha so eloquently
states, you are immortal.

Since most of us can safely assume that we have at most 30, 40, or 50 years left
on this earth, we can safely take a "return of principal" (I THINK am using this
term correctly), so the 4% consists of the 2.5% above inflation PLUS some of
the principal. You can easily create a simple spreadsheet (assuming you're
half-competent with Excel) and prove this to yourself. I have attached a
PDF from mine; I also tried to attach the XLS file itself, but it will not accept
that attachment.

 

[My Dream]

Thanks for sharing JohnEyles, it's interesting that the principal amount increases till about the year 2021, although in that year it's not worth as much due to inflation. At least is was moving in the right direction.

 

[JohnEyles]

Since most of us can safely assume that we have at most 30, 40, or 50 years left
on this earth, we can safely take a "return of principal" (I THINK am using this
term correctly), so the 4% consists of the 2.5% above inflation PLUS some of
the principal. You can easily create a simple spreadsheet (assuming you're
half-competent with Excel) and prove this to yourself. I have attached a
PDF from mine; I also tried to attach the XLS file itself, but it will not accept
that attachment.

Since you appear to be a novice, I will explain further - at least partly to clarify
the thoughts in my own head.

If you look at my spreadsheet, you will see that with an inflation-adjusted
withdrawal of 4% of initial portfolio value ($40K from $1M), your money will
last 40 years if you can get a return of just 5.5% and inflation is 3% - and
you will get similar results if you plug in other scenarios where ROR is 2.5%
above inflation.

Obviously this is extremely encouraging, and unfortunately very deceiving.
It only works this way if ROR and inflation are constant from year to year,
but they are not. Even if the AVERAGE inflation and ROR are 3% and 5.5%
over your time horizon, things will not work out nearly so rosily if there is a
lot of deviation from this average from year to year AND the disadvantageous
deviations (high inflation and/or bad or negative ROR) occur early in your time
horizon. You could also model this with a somewhat more complicated
spreadsheet, one that has separate ROR and inflation percentages for EACH
year - but I'm willing to take it on faith !

And modeling what happens in real-life (based on what HAS happened in real
life over the past century or so) is the whole point of FIRECalc.

 

[bobbee25]

in the pdf, what formula are you using. Maybe I am not thinking clear tonight.
i.e. 4% of 4000 = 4160 ..... 4% of 101,390 = 4055

 

[JohnEyles]

in the pdf, what formula are you using. Maybe I am not thinking clear tonight.
i.e. 4% of 4000 = 4160 ..... 4% of 101,390 = 4055

The usual meaning of "safe withdrawl rate" is that if SWR = 4%, it means
that in the first year of retirement (2007 in my example) you take 4% of your
initial portfolio value. That is, you take 4% of $100,000 = $4000 in the first year,
2007. Then you increase that value by inflation (3% in my example) each year,
regardless of what the portfolio value is in the subsequent years. So in year 2008,
$4120 is $4000 inflated by 3%; the $4120 is not related to the portfolio value
in 2008.