The 4% Rule and the $1,000 Rule of Retirement

How much income will you need each year during retirement? How much will you need to have saved to ensure your money lasts? As you approach retirement, you want to evaluate your options when it comes to sources of income. You will receive income from Social Security benefits, as well as possibly retirement account distributions, a pension, or other sources. One popular strategy for determining how much money you will need is the “$1,000 per month” rule. This rule states that for every $240,000 that you set aside, you can have $1,000  each month. This is assuming that you withdraw 5% of your savings each year.

So, you’ll need at least $240,000 if you plan to withdraw 5% of your savings each year. If you’re planning on withdrawing $2,000 every month at a withdrawal rate of 5%, you’ll need to set aside at least $480,000. For $3,000 per month, you should aim to save $720,000. Following through on this strategy involves developing passive sources of income. Your income could come from investments, rental properties, dividends, or other sources that don’t require active effort from you. 

Advantages of the $1000 Rule

The more money you have access to in retirement, the better, especially in times of rising costs and high inflation. Using this tactic, you can take some comfort in knowing what to expect. If you retire at age 65 with a $480,000 nest egg, you can set up your monthly budget based on consistently having $2,000 each month.

This rule does, however, come with some limitations. Relying on investments exposes you to risk. Your portfolio balance will rise and fall along with the stock market. In the event of a stock market downturn, your balance could drop. Then, when retirement arrives, you may not have enough money to last you using the $1,000 per month rule. You may want to take out less than 5% yearly in order to ensure your savings actually last you. And, you may want to look for some options for your money where it’ll be kept safe. 

The 4% Rule

The $1,000 per month rule is actually a variation of the 4% rule. The 4% rule has been a financial rule of thumb for many years. It states that you can deduct 4% from your portfolio each year during retirement (adjusted for inflation) and not run out of money for at least 30 years, assuming your portfolio is a 50/50 mix of stocks and bonds. Like the $1,000 rule, however, this rule does have some limitations. Not all retirees want a mix of 50% stocks and 50% bonds for their portfolio, some people want less risk than that. Additionally, some people may need more or less money than that in a given year. In this case, this tactic may not be right for them. These rules are guidelines, intended to ensure that you save up enough for retirement and don’t withdraw your funds too quickly.

The 4% rule was considered the gospel of retirement income strategies for a long time. However, in recent years, this has changed. Many financial advisors have warned that you’re likely to run out of money if you start with that rate. Based on the state of the economy a few years ago, the recommendation was lowered to only 3.3% by Morningstar, Inc. 

The 4% Rule Is Back?

Very recently, however, thanks to higher interest rates, it may once again be safe to employ the 4% rule. Using 4% of your savings in the first year of your retirement (adjusted for inflation in subsequent years) may be advantageous for new retirees. An individual who retires this year with $1 million in their portfolio with 40% of it in stocks and 60% of it in bonds would spend no more than $40,000 from their portfolio in 2024. Assuming inflation rose by 3% in 2024, that investor would then give themselves a raise, withdrawing $41,200 in 2025. For those who have already retired, however, they’d be better off sticking to the withdrawal amount they began their retirement with (adjusted for inflation) rather than switching to 4% now.

Reach Out to Us

As we said, as you get older, protecting your money becomes more and more important. You may want to move more and more of your money from investments to “safe money” options as you get older–One guideline you can use for this is the “rule of 100.” The rule of 100 states that, the closer you get to age 100, the more of your money should be kept in places where it’s guaranteed safe. For example, if you’re 63 years old, at least 63% of your savings should be kept somewhere safe, while the remaining 37% can be invested. When you’re 65, 65% of it should be kept safe, and only 35% at max can be invested. You get the picture. 

And speaking of safe money options, we may have some recommendations you haven’t considered. If you’re looking for a place to keep a percentage of your money (or even all of it) where it’ll be kept safe, but still earn interest at a reasonable rate (over time) reach out to us. We may have some very helpful information for you. 

Sources: U.S. News, Wall Street Journal, The Balance

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