4% Rule (xx% "rule" or 25-30x expenses) Question

[wannabefire]

I don't want to get into the debate on the specific number 4% or 3% or 25x vs. 30x (that is for another thread).

I have a question how people think about their annual expenses, they can be broken down into fixed and variable, or recurring & non-recurring etc.

• For instance, utilities, property taxes, groceries, cell phone, insurance etc. are all "Fixed" or "Recurring" in nature. You could argue that you can cut out the cell phone or save a few $$ on groceries.
  
• Then there are things that are discretionary like travel, charitable giving, hobbies etc. I would classify these as variable and would likely include in "recurring".
  
• Then there are lumpy expenditures like, automobile purchase, hot tub, deferred maintenance on home (house painting, furnace, irrigation fix, fence repair).

When thinking about the 25x spend, do you include some annual placeholder for the lumpy expenses? They are lumpy in nature and you may not spend anything on one year, but have surprises or planned in other years.

My point is that it looking at 25x or 30x of regular expenditures is very different than also including ALL lumpy expenses and definitionally unpredictable. Maybe this is why some plan for 30x or 40x, depending on inclusion of these lumpy expenses as well?

Thoughts?

 

[Gumby]

Some lumpy expenses can be predicted based on experience. So, for example, I know I'll need to paint the exterior of my house about every 9 years. I know the last time I did, it cost me $18k. In my plan, I essentially create a sinking fund and include a line item for painting at $2k per year. I don't actually put that money anywhere, it is just an accounting entry. You can do similar things with car replacement and major appliance replacement. Those annualized sinking fund numbers count against the money my portfolio needs to generate at 4%.

 

[Montecfo]

Since your annual draw must cover everything (including investment expenses if you use an advisor), YES you need an estimate of all your costs whether recurring, nonrecurring, lumpy, etc.

 

[Still Learning]

We use an Excel file to maintain information on 1) current expenses/worth 2) future anticipated expenses/house improvements/vehicle replacements/anticipated increased worth out to age 80. With a positive trend in investments/savings we will have significantly more worth at 80. We already have self funded long term care in place and have a discretionary spending section in our current expenses that includes travel and expected yearly voluntary purchases.



If your expenses already include health care and long term care and want to look at 30X results then just need to establish expected replacement date and best inflation adjusted cost for house improvements and vehicle replacements over your expected life to create a net sum and then divide by 30. Not knowing your current age/life expectancy you may need to alter the 30X value. Add health care and long term care cost if not already part of your retirement plan.



Good luck.

 

[marko]

We mentally set aside about 20% for lumpy, "whatever happens/whatever we need" expenses. Some years are better than others.

 

[tominboise]

I have a spreadsheet (doesn't everyone?) where I budget. We have two houses, so I have a section for each house and then also a general section. The house sections have all the expenses relative to owning, maintaining and upgrading, including electricity, gas, etc.

The general section has everything else. Like someone already posted, I spread lumpy expenses over the 12 months e.g. property taxes are shown as a monthly expense although paid twice a year, etc.

I have a misc line in each section with some padding in it. I have noticed we end up spending the padding by the end of the year. This doesn't surprise me, as I built out our budget based on actual spending over a few years. It just means I don't track down to each and every expenditure level.

Every December I make the next year budget by copying and updating for changes in things like health insurance.

 

[donheff]

When planning for ER I included annualized sums for anticipated lumpy expenditures like roofs, new cars, new AC. Over time it became clear that I had estimated well. More recently, I have stopped budgeting at all since spending is stable and assets are sufficient. If things significantly change (on either the spending or asset sides) I will dig out the Excel budget sheets and get back to work on them.

 

[walkinwood]

You should have a record of your categorized spending for a few years prior to ER. That's your best baseline.

You'll have to adjust that if you have to pay for your own health insurance, plan to travel more, move etc. Estimate your taxes by examining your investment returns & planned IRA withdrawals.

Then add some headroom to that - say 10%. I think this last point is very important and can determine if you're watching every penny or living easy.

And take some amount out of the SWR calculations to keep as a rainy day fund. If you have $1MM, base your calcs on 950K and keep the 50K for emergencies.

And that's probably your best estimation of future expenses. It is relatively easy to forecast any additional expenses for the coming year, but looking out more than 3 years becomes almost impossible. Who would have thought that 2020 & 2021 would be very low spending years? Or that inflation would raise its ugly head this year?

Your estimates will get better with time, but with some luck, after a while, their importance will diminish.


Good luck.

 

[slowsaver]

Nine years ago, I started categorizing tracking what we spend. I didn't have a budget. Just observing. I was amazed to see we spent about the same every year, even though it "felt" like we aren't doing the same thing. The only times our spending was much different was easily understandable, e.g. "new roof" or "pandemic (no eating at restaurants)."

I'm not suggesting you don't plan. But, it's good to just start tracking and see where the chips fall.

 

[Dtail]

Since I put together a fairly detailed budget, there is a line for lumpy expenses. Since we are in our 5th year of retirement, we have some history on these costs.
Plus we have a separate emergency fund for a potential very large unexpected expense.

 

[38Chevy454]

My general budget is pretty constant year over year since retirement, with those one-time expenses excluded. I don't keep a specific detail budget, just monthly cash flow total. My way of dealing with the big one-time expense is just keep my normal living at a safe lower than 3% withdrawal rate, and then just take additional withdrawal as needed to cover the one-time cost.

 

[ncbill]

Live in a townhome so any maintenance related to the exterior is taken care of in the monthly fee...roof is an exception...residents prefer to pay for that via a special assessment versus it being included in their monthly fee.

Just completed roof replacement...spread the cost out over several years...each homeowner paid $100/month for 5 years.

No need to come up with several thousand bucks all at once.

 

[FLSUnFIRE]

I project an amount based off past experiences and include that in my planning budget. I've started playing around with a sinking fund on my balance sheet for auto and home lumps... more just as a reminder that some of my cash is spoken for since money fungible so do what works for you.... just don't bury your head in the sand with respect to those known unknowns.

 

[disneysteve]

I'm not yet retired but I agree with the importance of tracking spending for several years before you do. That will undoubtedly include some lumpy spending and you can factor that in to your retirement expense estimate.


I bought a car in 2020.
We had a major home repair in 2021 due to storm damage.
We just bought a new bed and a new freezer last month.


Every year holds at least one or two lumpy expenses, so that's already factored in to how much we've spent each year for the past 4 or 5 years.

 

[Lewis Clark]

...residents prefer to pay for that via a special assessment versus it being included in their monthly fee. ...

One disadvantage in paying for big-ticket items through special assessments is that some residents aren't paying for their share of the costs.

For example, if a new resident moves in the year after a new roof is paid for, and moves out just before the next roof replacement, they will not contribute at all for the new roof even though they lived in the home for many years.

 

[GenXguy]

I don't use the term "lumpy" expenses.

I factor all of my estimated short term and long term expenses into an average monthly cost so that those long term infrequent expenses are accounted for. I don't have a separate line item for every specific thing for the house - just a home maintenance sinking fund expense, which I've had to jack up extra due to those costs skyrocketing faster than inflation for most things. Have another for my car replacement.

 

[CardsFan]

One disadvantage in paying for big-ticket items through special assessments is that some residents aren't paying for their share of the costs.

For example, if a new resident moves in the year after a new roof is paid for, and moves out just before the next roof replacement, they will not contribute at all for the new roof even though they lived in the home for many years.

That is a fair point. Our HOA has never had a special assessment in the 11 years we have lived here, and older residents don't recall one before that. Maintenance of roofs, windows, doors, etc. are on the homeowner. They ARE covered by the master insurance policy, but only for damage, not wear and tear.

 

[Exchme]

I think it's a valid point that folks should plan for the fact that spending needs can be uncertain and that uncertainty should be added in some sense to the uncertainty in investment returns. Though whether and how folks do that is a personal choice.

Some "lumpy" expenses like gifts, remodeling or travel are discretionary so you have control over timing and amounts, others are less in your control but can be planned for in a sense (X years per car/roof/air conditioner), others are truly unknowable like family emergencies, long term care needs, uninsured property damage (for instance, flooding's a thing here in SE Texas). If big unplanned expenses unluckily happen when the market is down, it can blow a hole in a marginal retirement plan.

We went well past the 25X as we did not want future-us to have to make painful money decisions if things went badly.

 

[levindb]

I guess our approach is a bit different. We understand our normal spending habits. We know our SSA benefits and the size of our nest egg. We assume our investments will grow at 3% over inflation...and they have done very well before last year.

We then calculate how much money we COULD spend each year to run out of money at age 105. It is pretty easy with excel. Some years we spend more and some years we spend less. We have a lot of discretionary spending because SSA covers about 73% of our annual needs...so this system works for us...and my car is 15 years old and doing just fine.

 

[JackJester]

Similar to others, I put all monthly expenses in a spreadsheet and bucket them into various categories like groceries, home maintenance, auto maintenance restaurants, insurance, etc. I have 27 categories; a lot, but I find it easy to review my monthly credit card bill and auto bank payments and bucket into these categories. I have been doing this every month for the past 5.5 years leading up to ER. So, I consider the average of ALL of these expenses as the 25X component. While one month might be really large (like house painting or roofing), other months will be normal or maybe even smaller. Over time this all averages out to include fixed, recurring, lumpy, discretionary ...whatever term you want to use. To me it is all “expenses”, and the only real variable is how often these expenses will re-occur. I plan to live in my current paid-off home for 20 more years, and hope to live the same comfortable style of living over that time. So an average of all expenses makes the most sense to me.

 

[COcheesehead]

We build lumpy expenses into each years budget. We have a pool for cars, house expenses, etc. At the end of the year, any budget surplus is rolled into the next year. We feel this covers any unexpected expenses, but also makes sure we do not under spend.

 

[daylatedollarshort]

We have an annual budget that has an average category for lumpy expenses, like home repairs and replacing appliances. I took out new cars because between how little we drive most years and our ages, I don't think we will be needing too many more cars in our lifetimes. And even then we have cars now with good trade-in values, will probably replace then eventually with used cars a few years old, so the difference won't be all that much. We usually live on about half our retirement income, so even if some big expenses come up it won't change our long term outcome by much.

 

[FLSUnFIRE]

That is a fair point. Our HOA has never had a special assessment in the 11 years we have lived here, and older residents don't recall one before that. Maintenance of roofs, windows, doors, etc. are on the homeowner. They ARE covered by the master insurance policy, but only for damage, not wear and tear.

That sounds really weird! Around here roof condition is a BIG factor in insurance rates, I cannot imagine my HOA paying a huge premium for my decision to live with a sketchy roof (or tolerating, the HOA policy being dropped due to a neighbor's decision to not replace their defective roof.) I would not be happy in that situation.



I live in a similar situation. - Fee simple townhouse but with an HOA that insures and maintains the envelope. The roof is maintained and replaced by the HOA. We also, I think required by FL law, have to disclose in our budget that we are under-funded if we do not fund earmarked reserves for major repair/replacement items like the roof. -We have done this some years and have moved reserves from account to account (some fully funded but work not required yet due to longer than expected life) to avoid a special assessment when other accounts were flush. By my projections we walk a tight rope of being just funded enough but our fees are pretty low and I don't mind the risk of an SA if actual costs are higher than projections.

 

[FI_RElater]

In original planning, before retirement, examined annual spending for prior x years...then added 25% ... that's what a multiple was needed for portfolio before even considering retirement... figured that was a large enough buffer and, of course, original budget took into account any taxes as well.

We're well past double those numbers...and haven't even started SS.... and have incurred situations like HVAC replacement, roof replacement on prior house, new vehicle.... and none of them caused any problems... and we've got good enough insurance for truely tail risk situation (and unfortunately know someone where that risk showed up... lost their house in a fire) (we're not "house poor", even paid cash for current one)

 

[mrfeh]

When thinking about the 25x spend, do you include some annual placeholder for the lumpy expenses?

Yes. You have to.

The 4% (or 3% or whatever number you want to use) includes all money being spent, not a subset.