Underestimating Safe Spending in Retirement and the 4% Rule

Many people are familiar with the 4% rule, or the safe spending rate. Research indicates you can withdraw the same inflation-adjusted amount from your nest egg for at least 30 years if you withdraw about 4.2% the first year. But a lot of assumptions go into that number. This article points out that one assumption is that real spending is fixed during retirement. In fact, as I’ve pointed out in Retirement Watch and many workshops, spending tends to decline steadily during retirement. The article says this means that the safe spending rule underestimates the amount that can be spent early in retirement.

In this guest post, Derek Tharp – our new Research Associate at Kitces.com, and a Ph.D. candidate in the financial planning program at Kansas State University – analyzes safe withdrawal rates assuming decreasing spending in retirement, finding that the discrepancy between standard industry assumptions and actual retiree behavior may be underestimating the safe withdrawal rate by 0.32% to 0.75% – turning the so-called “4% rule” into something closer to a “4.5% rule” (with subsequently reduced real spending) instead.