Spend 5% a year in retirement, and you'll be fine, they say. Make it 4% to play it safe, or 6% to spend a bit more. That decades-old general rule might work for averages, but it ignores when you retire, how much you've saved, how long you'll live and the market environment when you withdraw funds.
That's why the right withdrawal amount isn't a fixed percentage such as 4%, 5% or 6% each year or the same for everyone. Instead, it's dynamic and uniquely personal.
"Your withdrawal strategy depends upon your goals, your life, your circumstances right now and, of course, how you feel," says Greg Welborn, principal at First Financial Consulting. "Even if you're doing something that mathematically works, if it makes you feel uncomfortable, human behavior is to abandon it."
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When it comes to figuring out your retirement withdrawal strategy, it's easy to fall into the trap of blindly following the 4% rule, but you might run out of money or die with too much if you do that. Instead, here's how to adapt withdrawal guidelines such as the 4% rule to fit your own situation.
Envision your retirement
Withdrawing 4% each year, adjusted for inflation, might be your sweet spot. Maybe 6% is more realistic. You won't know until you determine the life you want in retirement and if your savings can support it.
That includes everything from where you'll live — will you age in place, relocate to a cheaper location or move somewhere more expensive — to how you'll spend your time. Somebody who plans to stay at home, tending to their garden or watching their grandkids, might need less money than someone who wants to travel, take classes and pursue a laundry list of hobbies.
"People are so focused on saving they don't focus enough on envisioning their retirements," says Kelli Smith, executive director of financial planning at Edelman Financial Engines. "The withdrawal rule depends on how well somebody saved relative to expectations."
When envisioning your retirement, try to be as specific as possible. Factor in both essential and non-essential expenses to get an accurate picture of your monthly costs. Armed with that, you're ready to choose the right withdrawal strategy for you.
Your income and longevity matter
Retirement can last 30 years or more depending on when you stop working, so the goal is to make your money last. That's where the 4% rule comes in, but it ignores pensions, Social Security and other recurring income. If those sources cover a good chunk of your monthly budget, you won't need to withdraw as much from savings, allowing your balance to keep growing and compounding over a long retirement.
On the flip side, if your guaranteed income doesn't cover enough of your monthly budget, your portfolio withdrawal rate might need to be higher to cover your expenses. If you retired early or have a modest nest egg, that could put pressure on your savings. But if you retired late or have a sizable nest egg, a higher withdrawal rate permits you to spend more and enjoy your money.
You must also factor in your longevity when determining your withdrawal rate. If there is a family history of heart disease, cancer and other chronic illnesses that point to a short lifespan, you might want to withdraw more than someone who has a family history of everyone living well into their 90s.
Nothing is static
Your spending withdrawal rate will likely change throughout your retirement, making the 4% rule less useful. Bonnie Treichel, founder of Endeavor Retirement, says that since your spending patterns change in different stages of retirement — go-go, slow-go and no-go — how much you withdraw will change, as well.
Required minimum distributions (RMDs) are another key factor. Starting at age 73 or 75, depending on when you were born, individuals with a traditional 401(k) or IRA must withdraw a mandatory annual percentage, which can alter their overall withdrawal strategy. "People don't spend in a straight line," says Treichel.
Saving plus lifestyle equals withdrawal rate
At the end of the day, your savings will dictate how much you spend in retirement, but so will your lifestyle, retirement date and health.
To determine the right rate for you, envision your retirement, consider your recurring income and how much you have saved. Let 4%, 5% and 6% serve as guideposts to find your unique sweet spot.
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