A Smarter Take on the ‘4% Rule’ for Retirement Withdrawals

Money rules of thumb can be useful, but they can also lose relevance as the economy, financial markets and retirees’ needs evolve. Some experts say that is now true of the 4% rule.

The guideline calls for withdrawing 4% of your savings in the first year of retirement, then increasing that dollar amount each year to keep pace with inflation. But with longer lifespans and rising costs for health care and other necessities, that approach may not provide enough income for some retirees.

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Using guardrails instead of a fixed rate

One alternative retirement specialists recommend is the guardrails method. This strategy changes your withdrawal percentage based on market performance, while setting a lower and upper limit. For example, a retiree using this framework might decide never to withdraw more than 5% of a portfolio in any single year, even after strong market gains.

Because markets do not always move higher, retirees also need a downside boundary. A 3% floor, for instance, can help avoid forcing withdrawals during weak market periods.

That lower guardrail can help protect your standard of living, while an upper guardrail such as 5% allows you to benefit from strong performance and shift some money into safer assets without giving up all growth exposure. If a 5% target makes more sense for your plan, the guardrails might instead be set at 4% and 6%.

Other possible changes

Instead of relying on a single fixed number, retirees may want to use a range such as 3% to 5% depending on market conditions. There are also other ways to help preserve retirement savings.

One option is to begin with a lower withdrawal rate, such as the 3.9% starting point Morningstar has suggested.

Another possible adjustment is to skip the annual inflation increase when feasible. Keeping withdrawals level can leave more money invested, which may help if markets perform well.

Keep an eye on your portfolio and spending

The guardrails approach calls for flexibility, so it is not a true set-it-and-forget-it strategy. Retirees need to review portfolio performance each year and decide what withdrawal rate fits that year’s conditions. Those who prefer automatic withdrawals could set a base annual rate, such as 3%, with monthly distributions and then adjust later if needed.

Retirees can also protect their savings by reducing spending when markets are weak.

Ultimately, the best withdrawal strategy is the one that matches your goals and financial circumstances, rather than one that simply follows a popular rule of thumb.