Nothing in life is certain, especially finances. What costs $10 today could cost $100 after two decades. For people looking to start a retirement fund, figuring out how much money they would need is difficult. Taking inflation into account is prudent but there are several other factors that have an effect. What if the economy is in a recession? What is there is rampant inflation? When it comes to finances, you can never be too sure. The whole financial world is built on speculation and estimates. This doesn’t mean that you cannot calculate how much money you will need for retirement. There is an answer to your conundrum: the 4% rule.
The 4% Rule
Generally, the approach taken by most people is to multiply their current level of annual spending by a number. The number is the estimated number of years they assume they are going to live after retirement. Usually it is close to 20 but experts claim that 25 is the best possible choice. The 4% rule is based on an estimate of 25. The rule is that you can spend 4% of your money every year.
The way this thing works is that your money is invested in stocks, bonds or other options. You receive a 7% interest/dividend on your investment, before taking inflation into account. Inflation would reduce the amount by at least 3% hence leaving you with 4%. So, your safe withdrawal rate is 4%.
Does it Work?
The apprehension is understandable. Stock prices are volatile and fluctuate like anything. Every few decades a recession hits and the strongest stocks plummet. The 4% rule doesn’t seem to be taking this fact into account. In fact, it seems to be pushing people towards a situation in which they need to contact debt settlement companies. However, this hesitance is mislaid.
The 4% rule is not just a wild concoction pulled from thin air. It is based on proper research and the theory has been put to the test to check its validity and efficacy. According to a study, it was found that people who spent 30 years in retirement could continue spending more than the safe withdrawal rate. Yet, the money they have would last and they will live comfortably. The data was applied to different eras spanning from 1925 onwards.
The results clearly showed that the retirees don’t have to work a single day after retirement. They need not have any other source of income whatsoever. Just investing their money and sticking to the 4% rule will see them through the retirement.
Why the 4% Rule is the Best Option?
As proved by the study cited above, the 4% rule is the easy answer to ‘how much do I need for retirement’. All a retiree needs to do is calculate an accurate figure for his/her annual spending at present. Then multiply the number by 25 and the amount of money need for retirement comes up. If you have more money than that, you can leave even more comfortably or have a higher safe withdrawal rate.
The best part about the 4% rule is that there is minimal risk. You don’t have to worry about your money as there is enough to see you through. As a matter of fact, things get better for people who spend more than 30 years in retirement. The investment continues to pay off and they can live without depending on anyone else.
The 4% rule can be tweaked to suit your preferences. For instance, let’s say your annual expenses are around $25,000. At that rate, you need at least $625,000 to retire without any worries. But you can reduce your spending and bring it down by a couple of thousands. That way, you will be down to around $575,000 and retire comfortably.
Unless you have accumulated substantial debts and are looking for debt settlement companies, you have an easy answer to the perennial question ‘how much do I need for retirement’. The bottom-line is that finding an accurate amount for retirement is next to impossible. There are no guarantees or certainties. Life could take a turn for the worse. Keeping that in mind, the 4% rule is the best option you have to live contentedly after retirement.
The above article is composed and edited by Donna B. She is associated with many social media, finance and technology communities and is a freelance writer and adviser. In her free time she writes articles related to finance, loan, debt settlement companies, dongle, internet technology, mobile applications etc.