Is the 4% Rule Outdated?

Written by: Kyle Jahnke, CFP® | Retirement & Wealth Strategies

If you’ve spent any time researching how to make your savings last in retirement, you’ve probably heard of the “4% rule.” It’s the rule of thumb created by financial planner William Bengen back in 1994 that was meant to provide retirees with a starting point when trying to answer the question, “How much can I responsibly spend in retirement?” The research behind the rules suggests that retirees can withdraw 4% of their portfolio annually without running out of money over a 30-year retirement, while adjusting for inflation.

In the decades since, Bengen’s research has been a cornerstone for financial planners, financial media, and DIY investors alike. However, the treasured rule just received a face-lift.

In his new book A Richer Retirement: Supercharging the 4% Rule to Spend More and Enjoy More, Bengen updated his research and found that today’s retirees can likely withdraw 4.7% instead of 4%. Going one step further, he even suggests that 5.25–5.5% might be safe.

At first glance, the rule increasing by a few tenths of a percent may not seem notable. The perspective changes given a real-world example:

• Given a $1,000,000 portfolio, 4% provides you $40,000 per year.

• At 4.7%, you’re looking at $47,000.

• At 5.25%, that jumps to $52,500.

That’s potentially an extra $7,000–$12,500 per year of additional spending power. For retirees, that could be the difference in taking the vacation, visiting the grandkids, or picking up the new hobby.

So, what changed? And what should today’s investor take away from the update?

Revisiting the Original Rule

When introducing the 4% rule case study, Bengen’s research was based upon historical returns of portfolios comprised of U.S. large-cap stocks and intermediate-term government bonds ranging back to the 1920’s. Meaning, the data set included pivotal drawdowns such as the Great Depression and stagflation years of the 1970’s. When back testing, Bengen found that beginning with a 4% withdrawal was the worst-case safe number.

Put plainly, if you happened to retire in the worst market conditions imaginable, a 4% withdrawal rate still gave you a strong statistical chance of success. Considering the unknows that accompany making the jump into retirement, it is easy to see why new retirees have clung to the rule as a north star.

What Changed?

After 30 years, Bengen decided that it was time to revisit his original models using updated datasets. The biggest updates to note include:

• Expanded investment universe: Instead of basing data assumptions on the original mix of large-cap U.S. stocks and intermediate government bonds, he has widened the data to reflect modern diversified portfolios that are now commonplace to everyday investors. This broadening of the dataset now includes categories like small and mid-cap stocks along with international equities and cash.

As long-term investors have experienced over the decades, a well-diversified portfolio can improve the resilience of your portfolio through a wide variety of markets. This theme is amplified in retirement when withdrawals begin, leading Bengen to reflect a more modern take on portfolio construction in his fresh analysis.

• A new market: At inception in 1994, the 4% rule was popularized in the aftermath of the inflation turmoil of the 70’s and 80’s. Bergen and his clients were not far removed from the memory of double-digit inflation over a number of years, leading to the desire to set guardrails for retirement withdrawals via the original rule.

Fast-forward thirty years to today. While retirees have dealt with inflation in recent years, the 21st century has been relatively kind in comparison to the periods referenced above. Adding in these recent periods of relatively moderate inflation to the 400 historical periods that Bengen analyzed plays a role in the so-called “SAFEMAX” rate rising to 4.7%. Put simply, lower relative inflation reduces the growth needed from withdrawals over time, allowing retirees to maintain higher initial spending in earlier years.

Applying the Rule

For those looking to make the most of their Golden Years, this new research certainly is a welcome revision to the original rule. However, let’s talk briefly about a few caveats.

1. Guide, not Law.
Whether you use a withdrawal rate of 4%, 4.7%, or 5.25%, keep in mind that Bengen’s figures are meant to set a baseline, not dictate your life. The right withdrawal rate for you will depend on your retirement horizon, spending goals, risk tolerance, and legacy priorities.

2. Keep it Flexible.
For retirees who love predictability (who doesn’t?), sticking to a fixed withdrawal rate may feel like the safe play. However, even a resilient portfolio will likely experience turbulence throughout the many years of retirement. Bengen himself shares the importance of taking a flexible approach to win long-term. Maybe this looks like deciding to spend more in years of solid market performance, while choosing to push off a major one-time expense in the middle of a drawdown. Your situation is unique, and your withdrawal strategy should reflect that.

3. More Income? More Risk.
Yes, Bengen’s study implies that a 4.7% withdrawal rate would have worked even in the harshest environments. But this is investing, where the future rarely reflects the past. This makes active planning and continuous monitoring of your strategy far more important than being fixed on one rule.

The Last Word

In my own practice, I often see clients struggle with the mindset shift required to move from saving to spending at retirement. Instead of weathering a drawdown by holding tight, many retirees don’t have the option to avoid withdrawals. This fundamental change can be scary and is why concepts like the “4% rule” have gained traction – offering confidence in uncertain times.

Bengen’s research leaves investors a compelling starting point when mapping out plans for income in retirement. Yet, retirees stand the chance of missing out by fixating on a perfect number. At the end of the day, revisiting this research is a reminder that while rules of thumb can provide comfort, it’s through thoughtful, personalized planning that retirees chart a course towards their goals which endures.

Related: Rhymes With Fired

Disclosures:

This is intended for informational purposes only and should not be used as the primary basis for an investment decision. Consult a financial professional for your personal situation. Asset allocation and diversification strategies cannot assure profit or protect against loss in a generally declining market. Indices mentioned are unmanaged, do not incur fees, and cannot be invested into directly. Past performance does not guarantee future results. Securities offered through Registered Representatives of Cambridge Investment Research, Inc., a broker-dealer, member FINRA/SIPC. Advisory services offered through Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. RWS and Cambridge are not affiliated.