Knowing how much money you need to retire comfortably is often a difficult question to answer.
There are a lot of opinions on the internet which can make it very difficult for the average joe to know what advice to follow.
Recently I came across Dave Ramsey’s advice on this topic and honestly, I was really surprised. Normally Dave Ramsey is really conservative in his recommendations but he certainly wasn’t this time around.
Dave’s Thoughts on Retirement
Dave Ramsey has helped millions of people take control of their money, especially through his “Baby Step” debt control program.
I really respect all the good that Dave has done for so many people all over the country, but like I have mentioned in other articles, I don’t envy Dave’s job.
He has to give advice that will hopefully apply to millions of people without much room for the nuances of personal situations.
For example, in one of his articles on his website he recently said that it is very reasonable to withdraw 8% of your savings every year in retirement. His reasoning was that a good performing mutual fund grows about 12% per year. The first 8% of growth goes towards your withdrawal with the extra 4% going towards helping you keep up with inflation over time.
The Big Problem
On the surface, this strategy seems to make a lot of sense but once you dig into the details then it becomes a lot more complicated.
First of all, right off the bat assuming a 12% annual return seems very optimistic to me. Over the last 50 years, the S&P 500 (aka the C Fund) has averaged closer to 10% every year and many retirees probably aren’t going to have 100% of their money in the C fund.
As a result, the average return for many retirees will probably be closer to 6%-9% depending on how they choose to invest their money.
And if that was the end of the story then an 8% withdrawal wouldn’t seem too crazy but we aren’t out of the woods yet.
Sequence of Returns
The next problem that retirees have is that investments don’t tend to grow at a consistent rate over time. For example, the market may be up 10% one year, down 2% the next, and then up 20% the following year.
If we knew that the market would grow at exactly 8% per year then planning would be easy but unfortunately that is not the case.
And the problem arises whenever retirees withdraw from their nest egg when their investments are down in value because this stunts future potential growth.
Because of this, even when the market averages 10% per year there is still a risk of running out of money even if you are withdrawing ‘only’ 8% per year.
This is why I was shocked that Dave Ramsey suggested a 8% withdrawal rate. Based on my experience that seemed dangerously high.
So what is a safe withdrawal rate? Good question. Some really like the 4% rule because of its simplicity but there is no perfect rule that will work perfectly for everyone.
You will want to make sure your strategy makes sense for your situation and will serve you well throughout all the phases of your retirement.