4% rule

The 4% rule answers two questions with one number: how much a retiree can draw from savings each year, and how much savings a retirement needs. It came from studies that ran 30-year retirements through the historical returns of US stocks and bonds, starting in every year on record, and looked for the largest first-year withdrawal that lasted through the worst stretches; the answer was about 4% of the starting balance, raised with inflation each year after. The 4% is applied once, to the balance on the day you retire; every later year's withdrawal is the previous year's dollar amount plus inflation, not 4% of whatever is left. Turned around, the rule says a retirement needs savings of about 25 times the yearly spending those savings have to cover.

In a sentence

• "By the 4% rule, $1,000,000 of savings supports $40,000 in the first year, about $3,333 a month."
• "We spend $36,000 a year beyond Social Security, so the 4% rule puts the target at $900,000."
• "The 4% rule is not 4% of the balance every year. It is 4% once, and then the same amount plus inflation."

How it works

1. Add up the savings on the day you retire: the retirement accounts and the brokerage account, invested in a mix of stocks and bonds. The studies behind the rule assumed a portfolio with at least half in stocks.
2. Withdraw 4% of that balance in the first year. That is the year's income from savings, on top of Social Security, a pension or any other source.
3. Each year after, raise the dollar amount by inflation. A 3% year turns $40,000 into $41,200. The balance is not consulted; the withdrawal follows prices, not the market.
4. Let the portfolio's returns do the rest. In the historical runs, a balance drawn this way lasted 30 years through the worst stretches, which is what made 4% the safe rate.

First-year withdrawal = savings at retirement × 4%

Each later withdrawal = the previous year's withdrawal × (1 + inflation)

Savings needed = yearly spending from savings × 25

An example

A household retires with $1,000,000 and follows the rule, with inflation at 3% and a steady 6% return on the portfolio, both the example's assumptions. Real markets do not return the same figure every year, which is the reason the rule was tested against history rather than against an average.

The year-30 withdrawal of $94,263 buys what $40,000 buys today, and the thirty withdrawals add up to $1,903,017, nearly twice the starting balance, with the balance itself still above where it began. The result is sensitive to the return: on the same withdrawals a steady 5% leaves about $343,000 after thirty years, and a steady 4% runs out in year 29. Turned around, $40,000 a year needs $1,000,000, $36,000 needs $900,000, and $60,000 needs $1,500,000.

Why it matters

The rule turns the largest question in personal finance, how much is enough, into arithmetic: the yearly spending that Social Security and any pension will not cover, times 25. It also settles how the money is drawn once retirement starts, which prevents two mistakes. Taking a percentage of the balance every year makes income swing with the market, so a bad year cuts spending in the year it is hardest to cut; drawing with no rule at all spends a balance down at a rate nobody chose. What the rule cannot do is promise. It is a finding about the past, over 30-year retirements, and a longer retirement, a cautious portfolio or heavy fees argue for a lower rate, while a willingness to cut spending in a bad year argues for some room above it. A bad stretch in the first years does the most damage, because every withdrawal after it comes from a fallen balance.

4% rule versus a required minimum distribution

A required minimum distribution is the amount tax law makes you withdraw from a traditional 401(k) or IRA each year once you reach an age the law sets, computed by dividing the account's balance at the end of the previous year by a life-expectancy factor from a government table; it exists so that deferred tax gets paid, and the share it requires rises every year as the factor falls. The 4% rule is a spending plan you choose, applied to the whole portfolio, and the two run side by side: in later years the required distribution can exceed what the rule would draw, and the excess is taxed and can be reinvested in a brokerage account rather than spent. A Roth IRA has no required distribution during its owner's lifetime.

Common questions

Is the 4% rule the same as withdrawing 4% every year? No. Four percent is the first year's share of the starting balance. From the second year on, the withdrawal is the previous year's dollar amount raised by inflation, whatever the balance has done, which is what keeps the income steady in purchasing power.

Does the 4% rule include Social Security? No. The rule covers only what savings have to provide. Subtract Social Security and any pension from the spending you expect, and apply the rule, and the 25 times, to what is left.

What is a safe withdrawal rate? The largest first-year share of a portfolio that, raised with inflation each year, lasted a set number of years through the worst of history. Four percent is the traditional answer for 30 years, and it is safe in the sense of having survived the past, not of being guaranteed.

Is the 4% rule still valid? It is still the common starting point, and it is debated. Retirements longer than 30 years, portfolios with less in stocks, and fees all argue for a lower rate, and some planners suggest closer to 3% or 3.5% in those cases; a retiree willing to cut spending in bad years can start higher. A retirement calculator with the rate as an input shows what each choice does.

How much do I need to retire under the 4% rule? Twenty-five times the yearly spending your savings must cover. If that is $40,000 a year, the target is $1,000,000; if it is $60,000, the target is $1,500,000, in today's dollars, to be inflated to the year you retire.

Go deeper

• The Retirement calculator projects what your retirement savings could grow to by the age you plan to stop working, what that is worth in today's dollars, and the monthly income it could support, with the withdrawal rate as an input and the 25-times target in its common questions.
• The Compound interest calculator shows how a starting balance and a monthly contribution grow at a given return over the years, which is the balance the rule is applied to.
• How to budget in retirement on a fixed income turns the yearly withdrawal into a fixed monthly transfer set once a year, and builds the budget around it.