What is The 4% Rule
The rule of 4% or the 4% rule is a method of predicting how much you will need in retirement.
What is states is that you should, in theory, be able to withdraw 4% of your portfolio every year actually eat into your savings. This is because the stock market over the long term will return around 7% after inflation has been accounted for (S&p 500).
Another way of looking at the 4% rule and perhaps the easier way, in my opinion, is to work out how much you think you would need a month. You need to essentially add up your bills then add disposable income on top. Once you have a figure lets say it is £1500 a month.
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Assuming your mortgage is paid off. You have no debt by the time you retire. Most of your household bills in the UK at least will come to around £500 a month for the essentials. This excludes a car payment if you have one. I highly recommend you do not have a car payment unless you can comfortably afford it.
This would leave you with £1000 a month or £250 per week (this is all based on one person as it is easier to work out). A comfortable amount of essentially disposable income for most. What we then do is multiple £1,500 by 12 months to give £18,000 a year.
From this £18,000 we then must multiply by 25 – 18,000 x 25 is £450,000. In theory with a portfolio of £450,000, you could withdraw £1,500 every month and never run out of money the vast majority of the time.
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My problem with the 4% Rule
My main issue with the 4% rule is that it assumes that you never want to run out of money.
Well, guess what? You can not take it with you! Unless of course, you plan on leaving the nest egg to your children or significant other (assuming they will be around the same age this seems of little concern).
Some people go by the 5% rule or a multiple of 20 instead of 25, this would give us a portfolio value of £360,000 from multiplying £18,000 by 20.
To me this seems a lot more reasonable to do, as long as you are not sucking down the portfolio at an alarming rate I think this is more than acceptable. What you have to remember is as you age your need for disposable income will greatly decrease. Not only this but your state pension will be there to boost your monthly income.
For me in the UK, my current state pension age is 68 and the current full state pension for a man is £168.60 a week or £8762 a year. So this means from age 68 you would only need to draw £10,000 a year from your portfolio to maintain your current income of £1,500 a month.
How much do I need to save for retirement?
How much you need to save depends largely on how old you are now and how much you think you will need to come retirement.
As an example, I am 30 years old. I aim to retire for 55 in an ideal world.
Playing around with a compound interest calculator, I have around £7,000 already invested. If I put this in as my start capital with an average 7% return over the long term for 25 years. Then saving £300 a month would net me £284,517 after 25 years. Amazing the power of compound interest, Einstein’s eighth wonder of the world. I intend to save this as a minimum every month but it will likely be more.
But, I hear you say that it is £75,000 off the required £360,000. Indeed it is but we also have our workplace pensions now in a place where 4% of my salary is stopped at source every month and my company pays a 3% match along with tax relief from the government.
This should easily cover the shortfall, in fact, my plan is to draw the £1,500 or however much I need from this pension first, come age 55.
Doing this will allow my main portfolio to compound for another few years, I have roughly worked it out and it should last at least 6-7 years. Those extra years compounding of the main portfolio will be huge.
Not only this but it means that lets it lasts 7 years. I would then be 62. Only another 6 years until the state pension kicks in. From all the calculations and theories I have worked out, saving just £300 a month should allow for a comfortable retirement. Allowing multiple European holidays a year or one Long haul trip.
4% Rule in the USA
All the videos and articles I have read around the 4% are largely American, all claiming you will need several million dollars to retire at 65.
This just seems ludicrous to me, how expensive are those medial bills and insurance? Along with the fact most of them are paying for housing in retirement?
Having the NHS, mortgage paid off and no other debt makes an alarming difference to how much income you will need in retirement.
The sooner you start investing the less you need to put away each month due to compound interest. Have a play with this Compound interest calculator here to see what I mean.
Other income sources
I also hope that I will have several streams of income Even if it’s just a few hundred a month it will be a nice boost.
The other streams will be sources such as this blog, youtube via affiliate links and one day monetization for now. Hopefully, within the next couple of years, I will be generating a nice little boost to my monthly income that will be passive.
If the blog continues to grow, I would always be keen on continuing it even into retirement. When I’m not playing golf or traveling of course. Have a read of some of my travel posts thus far!
I hope I have inspired even one person to join me on the path to early retirement without too much sacrifice.