The 4% rule and why we’re not relying on it

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I don’t remember everything about that day, but it’s safe to say that my brain exploded when I learned about the 4% rule.  I don’t recall which blogger or financial article introduced me to the concept but I know I’ve learned a little from a number of places.  I also remember being skeptical, which led me to search for varying explanations from those who might debunk the math as a myth but…I never found it.

What I did find was a tribe of adventurous, smart and corky people in the FIRE movement who each had their own way of explaining it and my life hasn’t been the same since.  With a vision for the future, a group of online homies cheering me on and now a formula, I knew exactly what I needed to do.

Shortly after that day, I remember crunching some numbers, reviewing various paths to get there and challenging myself to be a millionaire by 2020.  For a 27 year old grad student, it was exciting and overwhelming at the same da** time.  We’ve referred to our plan to achieve financial independence and retire early but haven’t gone in-depth about the underlying math behind this decision. This is for several reasons.

One, we’re not financial educators and don’t particularly enjoy presenting data this way [blogging].  We’re much more comfortable presenting concepts and applying tolerable doses of math so that our [and your] brains don’t go numb over minutiae and interpretations of data.  Secondly, there are plenty of people who have broken the 4% rule down in great detail so it doesn’t make much sense to replicate those bodies of work.

Most importantly, while we plan on following it, we’re not betting the farm on it.  But considering we’ve built our own humble group of followers, allow me to explain the 4% rule as I understand it.  In a nutshell, it goes a little something like this…

A well balanced, cost effective portfolio can withstand an annual withdrawal of 4% into perpetuity…dassit.  Put another way, if you can save 25X  what you typically spend in a year, invest that savings into a well balanced and cost effective portfolio then you can safely withdraw 4% from that fund on an annual basis and never run out of money.  This works because you’re primarily withdrawing the earned interest (growth), and not the principal (your contribution).

Four percent rule graphic resized

In absolute simplest terms, if you can live below your means, save up a $hit ton of money and invest it well, then you can live off the interest your investments produce.  This is possible because on average the S&P 500 has delivered annual returns of about 10% .  Secondly, if you’ve built a portfolio that isn’t saddled with high fees, the growth [if re-invested] remains in your portfolio, further boosting your returns.

Combined, those three forces [low cost of living, steady growth and low investment fees] allow your portfolio to withstand a modest withdrawal continually.  When you reach that point, you are considered “financially independent” [or FI] because you can live off the money your investments produce.  We like to think of it as “our money making money so we don’t have to“.  This fund is also commonly referred to as your ‘F*ck You fund’.  I’m sure you can see why.

Though this is a personal finance blog, I also like to think of the 4% rule in business terms.  In that sense, I define financial independence as the “breakeven point” of life, or the point where your fixed cost of living is covered.

Any earnings above and beyond that point is pure profit; or in personal financial terms, disposable income.  That’s key, because while we do have our eyes set on opting out of work, we will certainly continue to earn money.  The difference being, it will be on our terms.

FI graphic jpg

So what are we going to do?

In general, our goal is to pour as much of our disposable income into a portfolio that will allow us to withdraw 4% from it so we can opt out of required work IF we wanted to.  But what makes our situation a bit more interesting is we’re not completely hitching our wagon to a portfolio in the market to produce income for us.  Instead we’re diversifying this approach by supplementing our nest egg with other sources of income.

Think about it this way.  On one hand, we could build a giant nest egg of low cost index funds and bonds and slowly pull from that over time, adjusting the allocation as we get older.  The risk is, when the market is doing backflips like it is right now, we have to practice Jedi levels of aggressive patience as we watch our moolah ride a roller coaster.

As we get older, that’ll likely get harder to do because we’ll have a child,  [maybe more], likely need more healthcare and have expenses to consider that we don’t have today.  So what did we do to hedge that risk? We invested in real estate.

This way, we’re not solely reliant on our stocks and bonds portfolio and the 4% rule to produce income for us.  Instead, we will have debt free rental properties that supplement our income.  Not owing a mortgage on our rental properties boosts cash flow so long as we have tenants and will cover a significant portion of our new mortgage.  The only costs for our rentals will be operating costs (e.g. management fees, repairs, insurance, HOAs and property taxes), admin costs (legal fees) and capital costs (long term repairs).

So if you tie the two together, you can say our rental properties relieve the pressure from us to build a massive nest egg because we’ve built other vehicles of income.  Not to mention, the properties could appreciate in value and are great tax shelters for us.  So our future cash flow may look a little like this.

Passive income

But we’re not stopping there.  Taking a page from a millionaires mindset, we’re actively building other streams of income that fit our lifestyle and skillsets.  Here’s how I look at it— you can go after the big job, the fancy title and the corporate perks that come with it.  In exchange for that, you don’t own your time, your productivity and security is limited to the whims of that organization and likely several other forces that are completely out of your control.

Or, you can trade in the big ole check life to create several smaller checks that produce the same, if not more income passively.  So for us, the end goal is for our future income to look a bit more like this.

Mult streams of income

What we love about this approach is it gives us multiple streams of income while having more flexibility to spend our time doing more of the things we love.   It could be investing in a franchise, monetizing this blog, consulting work, micro-investing etc.  The point is, we’ll be in control which you can’t say when you’re bound to ONE paycheck at a job.

So there you have it folks.  That’s the underlying math and some more on our approach in a bit more detail.  Whether you agree or not, the gist is the same.  IF you are in a position to explore alternative ways of earning income and are interested in owning more of your time, you should consider this approach of “front-loading” your retirement.  If you’re a super nerd or skeptic and you need to see more about the 4% rule, I recommend checking out a few resources below.


Marketwatch: Click here

The Balance: Click here

Fan of Clark Howard?: Click here

An oldie but goodie: Mr. Money Mustache

Super nerdy?  Want to run a simulation?  Click here

Want a comprehensive list of tools, resources and blogs?  Click here


  1. Nice blog! I agree with you about developing multiple sources of income from investments, rental income, work I choose to do, and (for me) pension income. I decided to work my last 10 years in a job that will pay a pension when I retire. In less than 5 years we will be debt free, have rental income from 3 rentals, 2 pensions, and investment income. Just like diversifying investments, you’re right on about diversifying income sources in retirement.

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