With a lot of discipline and hard work, you spent a decade or two saving up for your early retirement. Now how to be sure if you have saved-up enough or not? Safe Withdrawal Rate answers this particular dilemma: How much can you spend in retirement based on your savings?
Any retirement planning whether early or traditional has two phases: (1) asset accumulation phase followed by (2) post-retirement spending phase. When we started planning for our own early retirement we discovered the FIRE community used a thumb-rule called 25X for accumulation phase and 4 percent safe withdrawal rate (SWR) for post-retirement spending phase. We also started our FIRE journey with these assumptions, but we now understand these rules and their limitations much better and we will share them with you in this post.
In our earlier blog post How much I need to retire early In India, we shared our views on how much to save to retire early and our opinion on the 25X strategy. In this post, we will share our views on the post-retirement spending phase for which the most common thumb rule is the 4 percent safe withdrawal rate.
Challenges with planning the post-retirement spending
It is a complex exercise to plan for post-retirement spending because of reasons such as inflation, one’s life span, market volatility, unforeseen expenditures. The longer you plan to live on your retirement corpus, the higher is the risk of things going wrong.
This is where Safe Withdrawal Rate (SWR) comes into the picture since it is a conservative estimate of how much you can safely withdraw annually from your nest egg without exhausting it completely before you die. SWR approach balances between you having enough money every year to live comfortably after retirement without depleting your corpus prematurely.
Is there a universally excepted Safe withdrawal rate that one can use?
Most of USA literature swears by 4 percent Safe Withdrawal rate.
Origin of 4 percent Safe Withdrawal Rate
The 4 percent safe withdrawal rate is not proven to last forever 100 percent of the time. And that is what happened to people who retired in the year 1966, their money just about lasted for 30 years.
"It’s really important to recognise that the word “safe” should be taken with a grain of salt since it’s based upon what’s happened historically. If markets behave differently than they have in the past, what was safe in the past may not be safe in the future"
- William BengenHow 4 percent Safe Withdrawal Rule works
Applying 4 percent SWR to Indian context
We ran our own little experiment based on William Bengen’s study. We assumed:
First Scenario: Actual returns for the first 22 years, assumed returns after 22 years (1.5 percent Real Rate Of Return)
Second scenario: Assumption - 2 percent Real rate of return*
Third scenario: Assumption - 3 percent Real Rate of Return
Fourth scenario: Assumption - 4 percent Real Rate of Return.
First Published: IST