The 4% rule

Explanation

In 1994, financial planner William Bengen tested withdrawal rates against US market history since 1926. He found that withdrawing 4% of the starting balance in year one and increasing that dollar amount with inflation each year would have lasted at least 30 years in every historical period he studied, using a portfolio of roughly 50% to 75% stocks. The 1998 “Trinity study” reached similar conclusions. Bengen has since argued that a somewhat higher rate would have worked with a more diversified portfolio, but 4% remains the common benchmark.

How to read it:

• It is a worst-case historical result. In most periods, retirees following it would have ended with more money than they started with.
• It assumes 30 years. For a 40- to 50-year early retirement, many studies point to 3.25% to 3.5%.
• It ignores fees and taxes, which come out of the withdrawal.
• It assumes rigid spending. Real people often spend less after bad years, which improves outcomes.
• It is based on US history, one of the strongest markets of the 20th century. Results in other countries were weaker.

The rule is best used to estimate a target (25 times spending), not as an exact spending policy.

In scenarios, choosing a 4% withdrawal rate reproduces this rule: the app sets your first withdrawal at 4% of your starting balance and inflates it each year. Monte Carlo mode shows how often that would last under the return assumptions you choose.

Example

You retire with $1,250,000. Inflation is 3% a year.

• Year 1: $1,250,000 × 4% = $50,000
• Year 2: $50,000 × 1.03 = $51,500
• Year 3: $51,500 × 1.03 = $53,045

These amounts stay the same whether the market rose or fell. If the portfolio dropped to $1,000,000 after year one, the $51,500 year-two withdrawal would be 5.15% of the remaining balance.

Working backward, spending $50,000 a year implies a target of $50,000 × 25 = $1,250,000.