What is a safe withdrawal rate?

It has been a while since I posted anything. My life has been in some turmoil the last 30 days. We have moved into a new home. It has been complicated by a wife with a broken leg and two children under 4 years old. Getting anything done during this season of life seems to move in slow motion.

But things are settling down, so I am looking forward to blogging again. This post will be rather short.

I just lost a client because I had told her that a safe withdrawal rate in retirement is 4%. In other words, you can feel reasonably confident that you will be able to live on your savings the rest of your life if you limit your withdrawals to 4% of principal.

This is not what she wanted to hear. So she went out and found someone who would promise her a higher withdrawal rate. She found that person. She was told that she could withdraw 8% and have no worries about running out of money.

There are plenty of "planners" who will tell people 8%. I like Dave Ramsey and think no one does a better job of motivating people to get out of debt. But Dave also teaches that you can withdraw 8% from your retirement savings. It's crazy talk and here are two reasons it is crazy.

1. To take an 8% withdrawal you will need to invest with a heavy emphasis on growth investments. Growth investments have averaged 8-12% per year over long periods of time. But it is never a smooth 8-12%. There are periods where you will have to absorb significant losses in order to get the high average returns.

If you invested your money in 1969 and withdrew 8% a year. You would have run out of money in 1981 (right before the bull market raged from 1982-1999). There are many other periods we can point to.

2. High expectations presume on tomorrow. For all we know, 4% may be a poor assumption. We could see periods of bad economic times that will blow away all of our best laid plans. But 4% has some historical prudence behind it. 8% is presuming that you will be withdrawing money during very good economic times. You will need a solid bull market to support this rate of withdrawal.

There is a story Jesus told in the Sermon on the Mount about a wise man who built his house on a rock. A foolish man built his house on the sand. The storms came to both men. One of the houses was able to withstand the storm. One house was destroyed by the storm. Although Jesus was not making any comments on wise financial planning here (Matthew 7:24-27), the lesson endures.

It is wise to expect storms and be prepared. Err on the side of conservative assumptions. It will allow you to sleep better at night.

For God's Glory,

Ashley Hodge