The 4% Safe Withdrawal Rate: Retirement Savings for Life?

You just want to ensure that you don’t run out of money in retirement. Is that too much to ask?

With income planning for retirement, odds are you have come across the terms ‘safe withdrawal rate’ or ‘sustainable withdrawal rate’.  They both mean the same thing. 

A sustainable withdrawal rate (SWR) is the percentage of money you can afford to withdraw from your personal retirement investments each year to cover your retirement living expenses without running out of funds in your lifetime. 

The consensus is that you should use a safe withdrawal rate of 4% per year plus inflation.  That should carry most middle class retirees through a retirement period of 25 years.  Nothing is guaranteed and depending on the stock market results, you may end up penniless. 

Although the 4% SWR is a good base for people to start with when planning, it is obviously silly to think that everyone will find that this rate works for them.  No one withdrawal strategy can fit every retiree’s personal situation. 

This article will explore the 4% SWR based on math to see where the theory holds and where it breaks.

A 4% Safe Withdrawal Rate (SWR) Example

The 4% SWR is always based on your portfolio balance at the beginning of your retirement.  Each subsequent year, you withdraw a small extra amount to cover an increase because of inflation.

If you start with a portfolio balance of $500,000, then each year you would withdraw 4% of that amount, which would be $20,000 in the first year. 

In the second year, if the market didn’t budge and earned a return of 0%, your retirement balance would be $480,000.  However, you would not withdraw 4% of $480,000.  You would continue along taking 4% of the opening $500,000 balance throughout your retirement, or $20,000 per year. 

That’s not all in year two.  You also need to take a little extra to cover inflation. 

If you calculated inflation at 2%, instead of taking out $20,000 per year, you would take out $20,000 * 1.02 = $20,400.  In year three, you would take out $20,400 * 1.02 = $20,808 because of the 2% inflation again.

In Canada,you are lucky that we have government pensions like CPP and OAS that won’t run out on you in your lifetime.  The burden of all of your retirement costs is not solely yours to bear. During your working life, you pay high taxes to offset this, but government pensions are something you deserve. 

Let’s work through the math on a few scenarios. 

Below is a simple hypothetical scenario where we assume that each year for 20 years straight, the S&P 500 returns 7.68% with a 4% withdrawal strategy in place. 

For simplicity, in Scenario 1 below, inflation will not be considered.   

Remember, the 4% withdrawal rate is always on the original dollar amount of $300,000 each year.  The “Opening Balance” and “After Withdrawal” balances will always show a difference of $12,000 each year because inflation is not being considered.   

Imagine you retired on January 1, 2000.  Let’s see how your hypothetical portfolio held up until December 31, 2019. 

Scenario 1: 7.68% Returns- Yearly, 4% Withdrawals and No Inflation Adjustment

YearOpening BalanceAfter WithdrawalEnd Balance
2000 $    300,000.00 $       288,000.00 $       310,118.40
2001 $    310,118.40 $       298,118.40 $       321,013.89
2002 $    321,013.89 $       309,013.89 $       332,746.16
2003 $    332,746.16 $       320,746.16 $       345,379.47
2004 $    345,379.47 $       333,379.47 $       358,983.01
2005 $    358,983.01 $       346,983.01 $       373,631.30
2006 $    373,631.30 $       361,631.30 $       389,404.59
2007 $    389,404.59 $       377,404.59 $       406,389.26
2008 $    406,389.26 $       394,389.26 $       424,678.35
2009 $    424,678.35 $       412,678.35 $       444,372.05
2010 $    444,372.05 $       432,372.05 $       465,578.23
2011 $    465,578.23 $       453,578.23 $       488,413.03
2012 $    488,413.03 $       476,413.03 $       513,001.55
2013 $    513,001.55 $       501,001.55 $       539,478.47
2014 $    539,478.47 $       527,478.47 $       567,988.82
2015 $    567,988.82 $       555,988.82 $       598,688.76
2016 $    598,688.76 $       586,688.76 $       631,746.46
2017 $    631,746.46 $       619,746.46 $       667,342.99
2018 $    667,342.99 $       655,342.99 $       705,673.33
2019 $    705,673.33 $       693,673.33 $       746,947.44
SP500 Return Average Same (7.68% from 2000-2019), 4% withdrawal ($12,000 per year) and no inflation *Withdrawals every January 1st

A portfolio where you took out $12,000 per year (4%) would leave you with $746,947 if you use the actual 20 year return average (7.68%) of the S&P 500 from 2000 to 2019. 

Please keep in mind that the real order of S&P 500 returns per year has a huge effect on ending retirement balances, a phenomenon that is called sequence risk.

Scenario 2: 7.68% Returns, 4% Withdrawals and a 2% Inflation change

What if we account for inflation?  A rise in prices causes inflation. This means you have to withdraw more money to buy the same goods as you did the year prior. 

We have added a column below titled “Withdrawal Amount.”  The table below has an inflation rate of 2%.

Each year’s return is still 7.68%. 

In 2001, the total withdrawal amount of $12,240 was found by multiplying the $12,000 withdrawal by 2% for inflation.  In each future year, you will notice the withdrawal amount increasing by 2% over the prior year’s withdrawal amount. 

By 2019, you would take out $17,481 to buy the same goods and services that you spent only $12,000 on, in 2000. 

7.68% Investment Return, 4% withdrawal + 2% inflation withdrawal in subsequent years

YearOpening BalanceWithdrawal AmountAfter WithdrawalEnd Balance
2000 $       300,000.00 $            12,000.00 $       288,000.00 $            310,118.40
2001 $       310,118.40 $            12,240.00 $       297,878.40 $            320,755.46
2002 $       320,755.46 $            12,484.80 $       308,270.66 $            331,945.85
2003 $       331,945.85 $            12,734.50 $       319,211.35 $            343,726.78
2004 $       343,726.78 $            12,989.19 $       330,737.60 $            356,138.25
2005 $       356,138.25 $            13,248.97 $       342,889.28 $            369,223.17
2006 $       369,223.17 $            13,513.95 $       355,709.22 $            383,027.69
2007 $       383,027.69 $            13,784.23 $       369,243.46 $            397,601.36
2008 $       397,601.36 $            14,059.91 $       383,541.45 $            412,997.43
2009 $       412,997.43 $            14,341.11 $       398,656.32 $            429,273.13
2010 $       429,273.13 $            14,627.93 $       414,645.19 $            446,489.94
2011 $       446,489.94 $            14,920.49 $       431,569.45 $            464,713.99
2012 $       464,713.99 $            15,218.90 $       449,495.09 $            484,016.31
2013 $       484,016.31 $            15,523.28 $       468,493.03 $            504,473.29
2014 $       504,473.29 $            15,833.75 $       488,639.55 $            526,167.06
2015 $       526,167.06 $            16,150.42 $       510,016.64 $            549,185.92
2016 $       549,185.92 $            16,473.43 $       532,712.49 $            573,624.81
2017 $       573,624.81 $            16,802.90 $       556,821.92 $            599,585.84
2018 $       599,585.84 $            17,138.95 $       582,446.89 $            627,178.81
2019 $       627,178.81 $            17,481.73 $       609,697.07 $            656,521.81
SP500 Return Average Same (7.68% from 2000-2019), 4% withdrawal ($12,000 per year) and 2% inflation *Withdrawals every January 1st

Now, the end balance is $656,521, which is about $90,000 less than the non-inflation scenario. That makes sense because you take out more money per year.  

Scenario 2: 3% Returns, 4% Withdrawals and a 2% Inflation Adjustment

When planning for retirement, it is always wise to include some scenarios that are unthinkable to test the dependability of your plan.  In this case, rather than use a 7.68% return each year for 20 years on your investments, the new rate of return will be 3%.  Here are the results:

YearOpening BalanceWithdrawal AmountAfter WithdrawalReturnEnd Balance
2000 $    300,000.00 $        12,000.00 $    288,000.003.00% $             296,640.00
2001 $    296,640.00 $        12,240.00 $    284,400.003.00% $             292,932.00
2002 $    292,932.00 $        12,484.80 $    280,447.203.00% $             288,860.62
2003 $    288,860.62 $        12,734.50 $    276,126.123.00% $             284,409.90
2004 $    284,409.90 $        12,989.19 $    271,420.723.00% $             279,563.34
2005 $    279,563.34 $        13,248.97 $    266,314.373.00% $             274,303.80
2006 $    274,303.80 $        13,513.95 $    260,789.853.00% $             268,613.55
2007 $    268,613.55 $        13,784.23 $    254,829.323.00% $             262,474.20
2008 $    262,474.20 $        14,059.91 $    248,414.293.00% $             255,866.71
2009 $    255,866.71 $        14,341.11 $    241,525.603.00% $             248,771.37
2010 $    248,771.37 $        14,627.93 $    234,143.443.00% $             241,167.74
2011 $    241,167.74 $        14,920.49 $    226,247.253.00% $             233,034.67
2012 $    233,034.67 $        15,218.90 $    217,815.773.00% $             224,350.24
2013 $    224,350.24 $        15,523.28 $    208,826.963.00% $             215,091.77
2014 $    215,091.77 $        15,833.75 $    199,258.023.00% $             205,235.76
2015 $    205,235.76 $        16,150.42 $    189,085.343.00% $             194,757.90
2016 $    194,757.90 $        16,473.43 $    178,284.483.00% $             183,633.01
2017 $    183,633.01 $        16,802.90 $    166,830.113.00% $             171,835.02
2018 $    171,835.02 $        17,138.95 $    154,696.063.00% $             159,336.94
2019 $    159,336.94 $        17,481.73 $    141,855.213.00% $             146,110.87
3% Investment Return, 4% withdrawal rate+ 2% inflation withdrawal rate in subsequent years

While only earning 3% per year and withdrawing 4% (plus inflation of 2% added on to each year that follows) you are still left with $146,110, or almost half of your $300,000 original portfolio value.  This shows that 4% is a pretty reliable safe withdrawal rate (SWR). 

Although the 4% SWR is pretty popular as a theory, if you can live on less than that, it will be even better for you.  You can use a SWR 3% or 2%, but don’t overdo it.  You don’t want to live so frugally for fear of running out of money in retirement (longevity risk), that you miss out on enjoying life. 

You don’t know how long you’ll be healthy enough to enjoy your life, so if you have the money, make sure you enjoy the first several years of retirement.  You can always cut back your withdrawal rate in your later years. 

There are studies that show that once you hit the age range of 70-75 years old, your spending goes down sharply. 

Possible Retirement Cherries on Top

It should be noted that the 4% safe withdrawal study was carried out in countries other than Canada, so government pensions such as the Canada Pension Plan (CPP) and Old Age Security (OAS) were not considered.  Workplace pensions were not considered either, but that makes your financial situation even rosier. 

In retirement your sources of income come from various places such as the government (CPP, OAS) your workplace pension or your personal cash and investment accounts (Registered Retirement Savings Plan (RRSP)/Registered Retirement Income Fund (RRIF), high interest savings account, Tax-Free Savings Account (TFSA)). 

If you and your partner need $40,000 to spend every year, it is possible that CPP and OAS will cover $25,000 – $30,000 of that amount.  Which means you may only need to use your RRSP and TFSA accounts to withdraw $10,000 – $15,000 a year.  If you had an investment portfolio of $500,000, then you would only withdraw 2-3% per year to produce that level of income, which is obviously better than withdrawing 4%. 

How Withdrawal Rates Affect Your Account Balance

If you don’t go excessively overboard with your withdrawal rate, you should be good if your retirement lasts 25 years.  If you’re planning on living 30 years, consider dropping your withdrawal rate down to 3-3.5% just to be safe based on previous historical return rates.

You also need to pay attention to your risk tolerance in retirement.   Most people are comfortable with a portfolio comprising 50% equities and 50% fixed income assets (bonds, GICs and cash), or even a 60% equities and 40% fixed income weighted portfolio. 

If you have a higher weighted equity based portfolio, you should expect a greater return than a portfolio with a higher percentage of fixed income assets because you are taking on greater risk. 

In retirement, the focus for most is on minimizing the impact of the downside (a market crash) rather than producing outsized investment gains. This is the opposite way you likely thought about your portfolio in the accumulation stage. 

Of course, your own personality will matter from this perspective.  If you have an aggressive risk tolerance, you may not mind having an equity allocation of 80% in your portfolio in retirement. 

The table below displays your investment account end balance after 20 years of retirement, unadjusted for inflation, with withdrawals occurring on January 1st of each year (including the first year) for a $300,000 investment portfolio. 

Remember, there is no inflation considered in these tables.  If you were withdrawing funds at 6% per year ($18,000) and you earned 3% on your $300,000 portfolio, you would end up with only $43,657 after 20 years.

If you earned 5% per year in the stock market and withdrew 4% per year, you would end up with $379,358. 

Retirement Account End Balance Over 20 Years at Various Return and Withdrawal Rates

Return (%)4% Withdrawal Rate5% Withdrawal Rate6% Withdrawal Rate7% Withdrawal Rate
3% $ 209,716 $ 126,686 $  43,657 $    0  
4% $ 285,707 $ 192,799 $  99,891 $   6,984
5% $ 379,358 $ 275,201 $ 171,043 $  66,885
6% $ 494,228 $ 377,250 $ 260,272 $ 143,293
Assumption: You make a lump sum withdrawal on January 1st so you can cover all your remaining expenses for the year over and above what your government pensions can cover. 

Inflation would drive these numbers lower, but the key point to understand here is that if your withdrawal rate is too high (6% or 7% in this scenario) you will run out of money or come close to it if returns are poor (3% or 4%). 

A 3 or 4% twenty year average return rate may be slightly pessimistic, but you should always try to test your scenarios under harsher conditions than you may expect to face.

An alternate takeaway is that if you keep your withdrawal rates to somewhere in-between the 4 or 5% range, you should generally have plenty of money leftover even if your average return over two decades is 3% or 4%. 

Getting your withdrawal rate correct is a great measure that you can take to assure yourself that you and your partner will not run out of money after 20 years of retirement. 

Review Your Sustainable Withdrawal Rate – Every Year

A retirement plan needs to be nimble and adaptable based on any new situation.  During retirement, major changes to your financial plan will be required whenever there is a:

  • Decline in a partner’s health
  • Divorce, or re-marriage
  • Change in family situation (children come to live with you, an adult child needs money for more money for a new house)
  • Death of a partner
  • Change in attitude towards lifestyle spending

These changes will affect your sustainable withdrawal rate and that is why it is important to review your withdrawal rate every year.

Safe Withdrawal Rate Conclusion

Figuring out a safe withdrawal rate for you is a significant step towards enjoying a retirement that is a little less worry-free. 

The 4% safe withdrawal rate is not a golden rule, but it has worked in the past, provided that you have a relatively substantial nest egg of $300,000 or more as a single person or as a couple. 

In Canada, the 4% SWR may not be as necessary because of the government pensions that we receive from CPP and OAS.  Higher net worth and modest living retirees may find a lower SWR such as 3% may provide an enjoyable retirement lifestyle. 

What is your goal for your retirement savings? What percentage will you plan on withdrawing each year? Let us know in the comment section below.

Safe Withdrawal Rate FAQs

What is a safe withdrawal rate?

The safe withdrawal rate is the percentage of money you can afford to withdraw from your retirement account each year to fully fund your retirement expenses without running out of funds in the future. A well known personal finance rule of thumb is to have a safe withdrawal rate of 4%.

What is the 25x Rule?

The generally accepted number for retirement savings is twenty-five times your annual expenses. If you annual expenses are $50,000 per year, then you would aim to have $1.25 million in your retirement account.

With the life expectancies in North America rising, you may want to increase this to 30 times annual expenses, just to be sure.

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