Understanding Safe Withdrawal Rates

Understanding Safe Withdrawal Rates

After saving for years, you face a new question: how much can you withdraw each year without running out of money? Research on "safe withdrawal rates" tries to answer this.

The well-known 4% rule suggests withdrawing 4% of your portfolio in year one, then adjusting that dollar amount for inflation each year. Historical analysis shows this approach would have survived most 30-year retirement periods.

The Research

Financial advisor William Bengen published his analysis in 1994, studying US market data from 1926 to 1992. He found that 4% was the highest withdrawal rate that would have survived every 30-year period in that dataset, including those that started before market crashes.

The Trinity Study in 1998 confirmed similar findings and analyzed different stock/bond allocations. A portfolio with 50% to 75% stocks historically supported 4% withdrawals well.

Bengen later updated his research with broader asset allocation and suggested 4.5% might be sustainable for 30-year retirements with the right portfolio.

A 2023 Morningstar study suggested 3.8% might be more appropriate given current bond yields and stock valuations.

For Early Retirees

The 4% rule was designed for 30-year retirements. Someone retiring at 40 might need their money to last 50 years or more. Most research suggests 3.25% to 3.5% provides more safety for longer timeframes.

The safe withdrawal rate calculator shows what different rates mean for your portfolio. Enter your balance and see annual and monthly withdrawal amounts at various rates.

Sequence of Returns Risk

The biggest danger in early retirement is a market crash in your first few years. If your portfolio drops 30% while you are withdrawing, recovery becomes difficult. This is called sequence of returns risk.

Common approaches to managing this include keeping 2 to 3 years of expenses in cash or bonds, and being willing to reduce spending during market downturns.

Flexibility Helps

Fixed withdrawal rate research assumes rigid spending regardless of market conditions. Real retirees can adapt. Research on variable withdrawal strategies shows higher safe rates are possible when people reduce spending during bad markets.

Historical success rates are based on past data. Future results may differ. This is educational information, not financial advice.