The 4% rule is widely accepted as a conservative benchmark for early retirees to guarantee they will not run out of money in early retirement. The concept comes from the Trinity Study, which found that no retiree ran out of money over a 30-year period when they withdrew 4% of their investments each year for living expenses. The remaining money would grow to account for inflation and allow the investor to withdraw 4% again the next year to continue living off the growth on their investments.
The 4% rule now serves as guidance throughout the financial independence retire early (FIRE) community, and most early retirees feel secure retiring when their investments reach a point that 4% of their total investments would cover their annual spending. In other words, once a person’s investments reach 25 times their annual spending, they can retire without fear.
However, the FIRE movement attracted many savvy yet risk-averse investors who raised their personal threshold for retirement with the justification that the Trinity Study only surveyed a 30-year retirement period. For someone retiring at age 30, the time in retirement may be double the studied time window, so conservative FIRE investors sought to live off of 3.5% or even 3% of their investments, forcing their FI Numbers to be much higher.
In reality, the 4% rule may fail early retirees. However, according to the history of the stock market so far, investors will know if their portfolio will not be able to support them within the first five years of retirement. In the cases in the Trinity Study where folks ran out of money with different stock/bond allocations or a higher withdrawal rate, the retirees experienced a negative market event in the first five years of retirement that decreased the principal of their investment for the entirety of their retirement. We recommend aiming to reach your FI Number at least five years before you feel you need to retire for this reason. It is okay to retire as soon as you reach your FI Number, but you should feel willing to go back to work in the event that you retire immediately before an economic downturn.
Since we already support the idea of retaining a willingness to go back to work or generating a stream of income in some way for those first five years of retirement to curb the risk of economic downturn, we do not like the idea of potentially wasting years of life working an unenjoyable job to invest enough money to reach a 3% withdrawal rate. Accept that the market is unpredictable by knowing you might need to change course rather than trying to build a bigger financial fortification against the unknown.
Given our tendency towards flexibility rather than a more conservative withdrawal rate in our FIRE approach, recent studies that suggest retiring earlier and relying on higher withdrawal rates piqued our interest. I find it fascinating and encouraging that the typically risk-averse FIRE community is exploring whether folks can retire early assuming they will withdraw 5% or 6% each year, if they are willing to be a bit more flexible with their spending and lifestyle choices. It shows that if you are willing to be a bit more nimble, you may be able to regain more years of your life with the freedom that comes with early retirement.
Early Retirees are Different than Regular Retirees, and That is Why Early Retirees Need Less Money
This is the part that feels counterintuitive to folks. The Trinity Study looked at safe withdrawal rates for folks in regular retirement, but folks retiring early have also used this 4% safe withdrawal rate as guidance for early retirement. When I begin to explain this to someone who has not yet looked at the numbers of compound interest guiding FIRE math, they tend to think this 4% safe withdrawal rate is too risky for early retirees for one of two reasons:
Retiring early means you have more than 30 years of retirement, so you must need more money!
Retiring early means more opportunities for economic downturn, and you need more money to safeguard against bear markets!
Both of these fears stem from a failure to understand the math that makes FIRE possible.
The point of a safe withdrawal rate, whether over 30 years or 300 years, is to maintain a principal amount of money in perpetuity that allows the retiree to live off of just the interest gained over time. The market does fluctuate, meaning some years it will decline, which is why we promote vigilance and flexibility particularly during those first five years of retirement. However, once a retiree gets past those first five years without an economic downturn, their money has grown to a point where they do not have to worry about withdrawing a portion of the principal investment and can live worry-free off of the interest.
Once you understand that (a) the goal is to never ever ever withdraw your principal investment and to live off of only the interest and (b) an economic downturn will probably not tank your portfolio completely after the first five years of retiring because your portfolio has already experienced enough growth to withstand an economic downturn, you can see why whatever withdrawal rate is safe for 30 years is safe for 300 years. By not ever touching the principal, that investment can support you in perpetuity. This means a 30-year-old retiree can live off of a 4% safe withdrawal rate the same as a 65-year-old retiree.
However, early retirees may have the opportunity to enjoy higher safe withdrawal rates. That is right. The 30-year-old retiree can withdraw a higher percentage of money safely than the 65-year-old retiree even though they have more years of retirement and economic unpredictability ahead of them.
Why? Because, on average, a 30-year-old is more financially flexible than a 65-year-old.
Most folks entering regular retirement have relatively fixed spending, including a fixed mortgage, food expenses, and medical costs, that make their financial position less flexible. Additionally, it is simply more difficult to change the cost of your lifestyle if you have lived that lifestyle for decades. If you are unwilling to change your lifestyle in retirement, that is okay—it just means you have to perceive your spending as fixed.
Early retirees usually have a bit more flexibility. There are significant portions of their annual spending that could be cut out completely or decreased significantly if the situation demanded it. For example, if you retire early to travel six months out of the year, you may be willing to decrease that to three months to save money in an economic downturn. Maybe you could even make up the difference by using geoarbitrage to travel to less expensive parts of the world or by traveling inexpensively with your transportation choices. Any area of potential flexibility is one that provides a retiree some flexibility.
Calculating Your Discretionary and Non-Discretionary Spending
These areas of flexibility matter because if you have a lot of discretionary spending factored into your budget, and would be willing to cut out that spending when the economy is poor, you can implement a higher safe withdrawal rate than 4%. A higher withdrawal rate means you need a smaller FI Number to reach financial independence. A smaller FI Number means earlier retirement.
To figure out a safe withdrawal rate for your situation, calculate your annual discretionary and non-discretionary spending. (If you have not already calculated your annual spending, this is a necessary first step!) To be clear, this means discretionary and non-discretionary spending in terms of your ideal retirement. This is a much more privileged perspective than parsing out discretionary and non-discretionary spending to pay off debt quickly: You do not have to give up anything you want in retirement. If you would rather work an extra year to make sure you can enjoy a certain luxury during retirement, then it is a non-discretionary item for your FI Number calculations.
Calculating your discretionary versus non-discretionary annual spending requires some consideration since money allocated to a particular category may be split across discretionary and non-discretionary spending. For example, I need a two-week vacation every year. This is non-discretionary for me at this point in my life, and I already have an account where I could fund a two-week vacation in perpetuity based on the 4% rule. However, in a tough year for the market, a two-week vacation at the beach in Ocean City, MD in off-peak season would be sufficient to meet my need for a vacation. I could forgo the two weeks in the Mediterranean, two weeks in Southeast Asia, one week in the Caribbean, and countless shorter getaways around the country that I enjoyed last year if the economy demanded it. Instead of flying back from Manila in business class, I could drive to the beach in my Honda Civic. Five weeks of international travel is discretionary spending for me, but having at least a two-week local vacation is non-discretionary. This compromise would save thousands of dollars a year but still allows me the luxury of an annual vacation.
Your own division of discretionary versus non-discretionary spending will be different from mine. Maybe you can cut out travel entirely. Maybe travel is your purpose for seeking early retirement, and you will not touch it. That said, you may be willing to compromise on the quality of your hotels or airlines to save a bit even if you will not reduce your overall travel days. This logic can be repeated for any category. Maybe you would be okay dining out once a week instead of twice, but less than that would decrease joy. Maybe you would rather keep up the frequency, but going to less expensive restaurants would be tolerable.
Analyze each spending category of your annual spending and determine how much of each is discretionary and non-discretionary in terms of your early retirement lifestyle. Again, this can be much pickier than a situation where you were in financial distress. You should still be able to live a happy life in the event that you had to live off of only your non-discretionary budget for a year or two, but you would find it disappointing to live that way every year.
Enjoying a Higher Withdrawal Rate
Mad Fientist Brandon Ganch and data scientist and wealth advisor Nick Maggiulli partnered together to analyze data about safe withdrawal rates given different levels of discretionary spending. They were initially inspired by research from Michael Kitces that focused on adjusting safe withdrawal rates to further investigate safe withdrawal rates for early retirees. Kitces advises that folks can enjoy a higher safe withdrawal rate for shorter periods of retirement, in other words withdrawing at more than 4% if you only plan on having 20 years of retirement rather than 30 years, and lowering the safe withdrawal rate for longer periods of retirement. While this can serve as guidance for those with annual spending that is entirely non-discretionary, the gap regarding the flexibility that comes with retiring early remains. This is what Ganch and Maggiulli set out to simulate.
Once you calculate your annual spending and divide expenses into discretionary and non-discretionary spending, determine the percentage of your overall annual spending that applies to each category. The greater percentage that is discretionary, the more you will be able to raise your safe withdrawal rate. Ganch and Maggiulli provide a great heat map showing safe withdrawal rates based on different percentages of discretionary spending in their article—his is worth reviewing!—showing that someone with 70% discretionary spending could actually enjoy a 6.25% safe withdrawal rate in early retirement as opposed to the traditional 4%!*
Why do you care? If your safe withdrawal rate is 6.25% instead of 4%, your FI Number is much lower. The table below shows FI Numbers for annual spending rates of $50,000 to $150,000 at withdrawal rates between 4% and 6.25%:
Annual Spending Required: | $50,000 | $75,000 | $100,000 | $125,000 | $150,000 |
FI Number at 4% SWR | $1,250,000 | $1,875,000 | $2,500,000 | $3,125,000 | $3,750,000 |
FI Number at 4.25% SWR | $1,250,000
| $1,875,000 | $2,500,000 | $3,125,000 | $3,750,000 |
FI Number at 4.5% SWR | $1,176,471 | $1,764,706 | $2,352,941 | $2,941,176 | $3,529,412 |
FI Number at 4.75% SWR | $1,111,111 | $1,666,667 | $2,222,222 | $2,777,778 | $3,333,333 |
FI Number at 5% SWR | $1,052,632 | $1,578,947 | $2,105,263 | $2,631,579 | $3,157,895 |
FI Number at 5.25% SWR | $1,000,000 | $1,500,000 | $2,000,000 | $2,500,000 | $3,000,000 |
FI Number at 5.5% SWR | $952,381 | $1,428,571 | $1,904,762 | $2,380,952 | $2,857,143 |
FI Number at 5.75% SWR | $909,091 | $1,363,636 | $1,818,182 | $2,272,727 | $2,727,273 |
FI Number at 6% SWR | $869,565 | $1,304,348 | $1,739,130 | $2,173,913 | $2,608,696 |
FI Number at 6.25% SWR | $833,333 | $1,250,000 | $1,666,667 | $2,083,333 | $2,500,000 |
Imagine lowering your FI Number by $1,250,000 because you discover that 70% of your annual spending is discretionary and you can utilize a 6.25% safe withdrawal rate in retirement! The numbers may decrease by a bit less for lower annual spending amounts, but the difference still had me wondering whether I should retire tomorrow. Once you know what percentage of your annual budget is discretionary, visit the Mad Fientist page to determine which safe withdrawal rate is right for you. You may find your FI Number is a bit lower than you expected.
The Rules to Make a Higher Safe Withdrawal Rate Work
The reason you can assume a higher safe withdrawal rate if you have a higher percentage of discretionary spending in early retirement is that you are willing to not spend money you have categorized as discretionary spending in economically poor years. You must be willing to cut certain expenses from your budget based on the economy to make a safe withdrawal rate work for you. In my case, I will enjoy my local beach vacation rather than island hopping in El Nido.
Specifically, Brandon Ganch and Nick Maggiulli suggest the following parameters when determining how much to spend:
Bear Market: When the market is greater than or equal to 20% lower than its previous high, adopt the bear market spending rule. The bear market spending rule is to spend 0% of the discretionary budget. In my case, this means no international travel; I can only enjoy my non-discretionary local beach vacation.
Market in Correction: If the market is greater than or equal to 10% below previous highs but less than 20% below previous highs, adopt the market correction rule. The market correction rule is to spend 50% of your discretionary spending budget. In other words, if you have $20,000 in discretionary spending, you will spend $10,000 in discretionary spending. In my travel scenario, this means I may be able to go to the Mediterranean for two weeks and a less expensive one- or two-week vacation, but I may skip trans-Pacific flights for the year. There is room for some extra spending but not the full amount.
Relatively Flat or Bull Market: When the market is less than 10% below its previous highs, equal to previous highs, or going up, adopt the relatively flat or bull market spending rule. This rule allows you to spend 100% of the discretionary budget. In other words, if the market is down only a bit, is even, or is up, I can travel far and wide, buy my business class seats for the long flight, leave the country to my heart’s content, and still enjoy my smaller getaways.
I was shocked by how unrestrictive these parameters were. If the market is down, but it is down less than 10%, you can still withdraw and enjoy your entire discretionary spending budget! In other words, normal market fluctuations do not impact your lifestyle. Only noticeable corrections or a bear market will force you to decrease or abstain from discretionary spending.
Lowering your FI Number accelerates your path to financial independence, saving you years before you obtain the financial freedom to choose how to spend your days. It is worth the extra calculation to determine what percentage of your annual spending is discretionary spending rather than non-discretionary spending.
Brandon Ganch and Nick Maggiulli’s research is the first in this area. Over time, we are likely to find more fine-tuned and incremental best practices for safe withdrawal rules during market corrections or bear markets. If withdrawing 100% of your discretionary savings worries you when the market is down 8% but not quite in correction, there is no rule saying you could not instead withdraw 75% of your discretionary spending for peace of mind. The best way to get more granular data on this research is to have more folks experiment with the hypothesis that earlier retirement is possible.
This research inspired me to go back and look more closely at our numbers so we can adjust our FI Number going forward. It also has me feeling more confident than ever about the ease of making ends meet even if anything happens that prompts me to use my F/U money like Patrick did in 2022.
Most importantly, I love this new approach because it fits with our approach to FIRE: Slowly improving your financial situation over time is the best way to keep you flexible, ready to adapt to the economy at large or the weird financial situations that life presents you. In terms of early retirement, we would only recommend trying this higher safe withdrawal rate approach if you are retiring five years earlier than you feel you need to retire to be happy. But we also advise the five-years-early approach no matter what because the bear market in year one of retirement is impossible to predict.
Becoming willing to adjust your discretionary spending priorities gives you increased flexibility. It may provide the opportunity to stay retired through an early bear market, proving that you do not have to go back to work even if you retire at an unlucky time. Regardless of how you navigate your approach to early retirement or what safe withdrawal rate you adopt, this research can provide more opportunities for flexibility. Having additional choices to navigate any situation is how we feel financially free.
* In their calculations, Ganch and Maggiulli assume an 80/20 stock/bond portfolio split.
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