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What is the 4% Rule and How Can I Benefit?

What is the 4% Rule and How Can I Benefit?

The concept of the 4% rules centers on the premise that if you have enough in your retirement to only spend 4% or so of the value each year, you should have enough in your retirement to cover thirty or so years.  The 4% rule is a helpful guide that many IRA and 401(k) investors use to determine how well they are doing in terms of retirement planning.  This article will explore the rule and explain how it works.  It will also illustrate that many investors have been pushed to the Self-Directed IRA as a way of satisfying it.

Key Points
  • The 4% rule is the concept that you will need 4% of your retirement savings each year
  • Determining how much you will need to retire comfortably is hard to gauge
  • Using proper investment strategies will help you achieve your goals

What is the 4% rule?

The 4% rule holds that a retirement account holder should be able to securely live off of 4% of their retirement fund investments in the first year of retirement, then slightly adjust the amount thereafter based off inflation.  Historical data suggests that living off of just 4% of your retirement funds will allow you to use your retirement portfolio to cover expenses for 30 years.  However, in recent years, some financial and tax advisors have begun to question the accuracy of the rule.  Due to the strong possibility of reduced social security payments and higher inflation in the future, many financial advisors believe that a more appropriate annual percentage to use is around 3.3%.

Most retirement investors use the 4% rule as a helpful guide to come up with a number that they think they will need to retire when they get older.  The issue is that is it very difficult to know what your ongoing living needs will be in twenty, thirty, or forty years. 

The Problem with the 4% Rule

The major problem with the 4% rule is that it is almost impossible to accurately determine what one’s expenses will be at retirement.  However, the real problem is that it puts the focus on the future annual distributions instead of the accumulation of savings.  For example, 401(k) plan balances ended 2022 down 23% from a year earlier to $103,900, according to a new report by Fidelity Investments. In addition, the average IRA balance also dropped 20% year over year to $104,000 in the fourth quarter of 2022.

To achieve that estimated number you will need when you retire, you need to continue to save each year, and also have a little luck with your investments. Saving for retirement is a lifelong commitment. There will be ups and downs, so you do need to focus on the end goal and how best to achieve it.

What will I Need at Retirement?

A popular way many retirement account savers use to figure out how much money they will need to save before they can retire, is to estimate how much money they will need to spend each year during retirement.  Of course, this is not an exact science, but it is a helpful exercise to get a ballpark number of what you will need to have saved. To do this, one should consider the following costs to get this estimate:

  • Rent or mortgage
  • Healthcare and long-term care costs
  • Annual cost of food & entertainment
  • Annual cost of medication
  • Car costs
  • Travel costs

Next, one would need to consider approximately how much of that money they would be receiving through federal benefits, such as Social Security.  One could assume they would receive $20,000 of so a year via Social Security distributions.  Hence instead of withdrawing $50,000 from your retirement account you would only need to take out $30,000.   In addition, this amount does not include any tax owed.  This is one of the major issues with the 4% rule; it is almost impossible to determine what one will actually need to live off in the future based off real expenses and living costs.

Once you have determined the amount of money you think will need to take out of your retirement account to live off, the next step is to figure out the amount you will actually need at retirement.

Simply take the number you will need each year (i.e. $50,000) and divide it by 0.04 to get an approximate amount needed (i.e. $1,250,000). In other words, $1,25,000 will last you 30 years if you withdraw $50,000 (4%) a year. Whereas, if one would want to go by the 3.3% rule, one would need approximately $1.5 million.

Related: Using a Solo 401(k) to Fight Inflation

The Rise of the Self-Directed IRA & Alternative Assets

Many retirement account investors have been concerned with the prospect of not having enough in their IRA and/or 401(k) at retirement. With the belief that Social Security may not be forever and the likelihood of higher inflation, a growing number of retirement account owners have turned to the Self-Directed IRA as a way to generate higher returns and better diversification.  The history of the 2022 equity markets have only added to this belief that if they want to maximize their retirement assets for retirement, they will need to get greater exposure to alternative assets in their retirement account, such as real estate, investment funds, private businesses, and possibly emerging assets, like cryptos.

It’s time to recognize that you should not put all your eggs in one basket, as was the case for many retirement investors in 2022, and you need to properly diversify your retirement account holdings. A growing number of investors have started to realize that if they want to be able to ever retire, and live comfortably during that retirement, they will need to grow they savings and diversify.

Related: Real Estate- The Best Hedge Against Inflation?


The lessons of 2022 are very real for many IRA and 401(k) savers.  Average retirement account balances in the U.S. were down about 20% at the end of 2022.  Having just $100,000 or so in your retirement account at age 73 will just not cut it.  This is why many retirement account investors have turned to alternative assets and the Self-Directed IRA as a way to build up their retirement nest egg so that using the 4% rule can one day be a reality.


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