4% rule: would it have lasted in euros and after tax?

What does the 4% rule say?

In the first year 4% of the portfolio is withdrawn; after that the amount rises by inflation every year — no matter how the portfolio performs. So the 4% only applies in the first year; after that the withdrawal follows prices, not the portfolio. The rule is meant for 30 years and a portfolio of equities and bonds. Read the other way round: if you need a certain amount per year, the rule says you need 25 times that.

Where does the 4% rule come from?

From two studies using American data. In 1994 the financial planner William Bengen looked for the highest first-year withdrawal that would have lasted 30 years in every starting year he examined — in other words, the rate of the weakest starting year. The Trinity study of 1998 counted, for various rates, allocations and periods, in how many of the periods examined the money would have lasted. Both gave rise to the rule of thumb and to the term “safe withdrawal rate”. All it means is: in this historical data, it would have lasted.

Would the rule have lasted in euros and after German tax?

Recalculated with €500,000, 60% in German equities and 40% in German government bonds, €20,000 withdrawn in the first year and raised with inflation after that, over 30 years:

• Before tax92 %of paths would have lasted
• After German tax88 %of paths would have lasted
• Rate that would have lasted in 9 out of 10 paths3.9 %in the first year, after tax: €19,424

The gap between the two shares is the tax: every withdrawal is sold so that the full amount arrives after tax, and whatever extra is sold for that is missing from the portfolio in the years that follow. On top of that come the different history of German markets and German inflation — the figures from the American studies cannot simply be carried over.

With real starting years — one path per January from 1973 to 1996, in exactly the order in which the following years came — the money would have lasted in 24 of 24 starting years. It would have lasted in every one of these starting years.

Which withdrawal rate would have lasted?

The same calculation for first-year rates from 3 % to 5 %, each after German tax — once over 10,000 drawn paths, once over the real starting years:

The higher the rate, the less often the money would have lasted — the transition is gradual, there is no sharp line. Which share is enough for you is a trade-off between more money per year and the risk of it running out before the end.

What does the length of withdrawals change?

The rule is meant for 30 years. If you stop earlier, you withdraw for longer — and the longer withdrawals last, the less the portfolio supports each year. The same allocation, after tax:

Why does the order of the years matter?

During withdrawals something is sold every year. If the market falls right at the start, more of the portfolio has to be sold to withdraw the same amount — and what has been sold no longer takes part in the later recovery. The same slump twenty years later weighs much less. Experts call this sequence-of-returns risk. A calculator with a fixed return doesn't know it; a Monte Carlo simulation shows it because it draws the years in many sequences.

What a crisis at the start would have meant

The same paths with 4% after tax, except that withdrawals begin with the months of a real crisis, in their real order:

What are the limits of the 4% rule?

It describes the past of one market and makes no promise about the future. It calculates without tax, without costs and with a fixed length of 30 years. It keeps the amount rigid even when the portfolio has risen or fallen sharply — so in many paths a lot is left at the end, while in some the money runs out earlier. And it knows no pension and no other income that covers part of your needs.

What are the alternatives to a fixed amount?

Instead of a rigid amount, you can withdraw a fixed share of the current portfolio value every year: the portfolio never runs completely empty, but the amount fluctuates. A liquidity buffer next to the portfolio pays the withdrawal in weak years so nothing has to be sold at a low. And guardrails lower or raise the amount when the withdrawal rate moves too far from its starting value. Paperball calculates all three — the share of the value and the buffer in the backtest and in Monte Carlo, the guardrails in Monte Carlo.

How do you calculate your own withdrawal rate?

Enter your portfolio, allocation and withdrawals: the Withdrawal plan calculator calculates your plan with real prices, tax and costs, the Monte Carlo simulation over 10,000 possible paths. Both look for the highest amount that would have lasted — for your securities, your time span and your country's tax.