Spending More Than 4% Per Year Can Be Safe

If you’ve read much about retirement planning, you’ve probably encountered the “4% rule” — the idea that, if you spend 4% of your portfolio balance in the first year of retirement, then adjust that level of spending upward each year in keeping with inflation, your portfolio will probably last through a 30-year retirement.

An unfortunate side effect of the proliferation of this concept is that people sometimes think that it’s automatically dangerous to spend more than 4% of your portfolio per year. In reality, there are plenty of cases in which spending more than 4% per year isn’t particularly risky — and even some cases where that’s the safest thing to do!

The “4% Rule” Often Involves Spending More than 4%

The idea of the 4% rule isn’t to spend 4% of the portfolio balance each year. Rather, the idea is to spend 4% in the first year of retirement, then adjust the dollar amount based on inflation going forward, regardless of how the portfolio performs.

As a result, even with the original 4% rule strategy, there are plenty of scenarios in which a person ends up spending more than 4% of the portfolio balance in a given year. (For example, any scenario in which the portfolio declines at all in Year One will result in spending more than 4% in Year Two.) Scenarios of that nature are already accounted for in the research that found that a 4% initial spending rate was reasonably safe.

Age Matters

Depending on your age, spending more than 4% per year can make perfect sense. As an obvious example, consider a 85-year-old widower. He doesn’t need his portfolio to last another 30 years. He might want to spend at a low rate, if his goal is to leave most of his savings to heirs, but he doesn’t have to.

Conversely, if you sell a business at age 35 and plan to be retired as of that point, living primarily off the portfolio, I would not suggest spending 4% per year. Given the super long time span that’s likely to be involved, it would probably be prudent to start with something more like 3% — or possibly even less.

Intending to Deplete the Portfolio

One long-time reader of this blog is unmarried, in her 60s, retired after a career with the federal government. Her home is paid off. And, in her own words, her savings are “modest, compared to what I would have tried to accumulate if I did not have a pension.”

Her plan is to spend about 10% of the portfolio balance per year, and I think that’s entirely reasonable. She plans to deplete the portfolio — that’s the goal. Spend the portfolio down while her health is still such that she can get the most enjoyment from the additional spending, and then live on the (not-at-all-trivial) pension for her remaining years.

Delaying Social Security

Finally, as we’ve discussed about a zillion times, delaying Social Security is typically advantageous for most unmarried people, for the higher earners in married couples, and in some cases even for the lower earner in married couples.

But delaying Social Security means spending down the portfolio at a faster rate in the meantime — often a rate in excess of 4%. And that scares some people.

But in reality, this is typically the safest thing to do.

You can carve out a separate chunk of your portfolio to satisfy the higher level of spending in early retirement, and put that money in something low-risk. (For example, build an 8-year CD ladder to satisfy the 8 years of higher spending until your Social Security kicks in.) In such a case, yes, you’re likely spending more than 4% in those years. But that chunk in question has almost no risk. And the result is a lower long-term spending rate once your Social Security does kick in. (Plus, in the event that you were to deplete your portfolio, you’d be left with a higher level of income than if you had not delayed Social Security.)