3 Situations Where You Need to Ignore the 4% Rule

Key Points

• A popular strategy has savers withdrawing 4% of their nest eggs annually with adjustments for inflation.

• There are certain scenarios where the 4% rule doesn't make sense.

• It's important to customize your withdrawal strategy to your personal situation.

People who enter retirement with savings generally have to work hard to get that point. After all, your IRA or 401(k) isn't going to fund itself.

But after pushing yourself to build up a nice amount of retirement savings, the last thing you want is for your nest egg to run out of money while you're still alive. That's why it's so important to establish a safe withdrawal strategy.

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Many financial experts will tell you to follow the 4% rule in that regard. With the 4% rule, you withdraw 4% of your savings balance your first year of retirement and then adjust future withdrawals based on inflation. Following the 4% rule gives you a strong likelihood of your money lasting for at least 30 years.

It's a good plan in theory. But it won't work for everyone. And if any of these situations apply to you, you may not want to use the 4% rule.

1. You're retiring early

As mentioned above, the 4% rule is designed to help people's savings last for 30 years. But if you're retiring early, you may need to stretch your nest egg for 35 years, 40 years, or longer. Following the 4% rule in that scenario could increase your risk of running out of money.

What withdrawal rate should you use in that case? It depends on your portfolio composition, income needs, and just how early you're retiring. It's best to work with a financial advisor to figure out a safe withdrawal rate that's customized to you.

2. You're retiring late

If you're retiring early, the 4% rule puts you at risk of depleting your savings. If you're retiring at a later age than the typical person, following the 4% rule won't necessarily pose a financial risk. But it could mean denying yourself larger withdrawals that could enhance your quality of life.

Let's say you retire at age 75 and expect to need your nest egg to last for 20 years. In that situation, you may be perfectly fine to tap your savings to the tune of 5% per year or more. If you force yourself to stick to a 4% withdrawal rate, you could end up missing out on different luxuries and conveniences money can buy.

3. You have a very low tolerance for risk

The 4% rule assumes that your portfolio has a roughly even mix of stocks and bonds. But if you're someone who's very risk-averse, and your portfolio therefore consists mostly of bonds, then the 4% rule may not work for you.

Of course, bond interest rates will also influence how well your portfolio holds up. But generally speaking, stocks are able to generate more portfolio growth than bonds. So if you're someone with 20% of your retirement portfolio in stocks and the remaining 80% in bonds, a 4% withdrawal rate may be too aggressive given your portfolio's likely performance during your senior years.

Create your own plan

Following a broad rule of thumb like the 4% rule may seem like an easy and convenient way to manage your nest egg. But it's not necessarily the optimal choice for you.

Rather than commit to the 4% rule, use it as a starting point, but work with a financial professional to come up with a targeted withdrawal rate based on your retirement age, income needs, and investment mix. A more tailored approach could give you peace of mind and reduce your chances of running out of money.

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