What Is a Drawdown Percentage?
A drawdown percentage is the portion of a retirement account that a retiree withdraws each year. If the drawdown percentage is too high, the retiree will outlive their savings and struggle financially at the end of their life. If the drawdown percentage is too low, the retiree will die with money left over.
Notably, the term drawdown percentage is most often used outside the U.S. (such as the U.K.), while within the U.S., the term withdrawal rate is more common.
Key Takeaways
- A drawdown percentage is the portion of retirement assets that a retiree withdraws each year to pay for their needs, wants, and expenses.
- The 4% rule states that retirees should withdraw 4% of retirement assets each year to live on.
- The 4% rule has drawbacks compared to other strategies, such as guaranteed lifetime annuities.
Understanding the Drawdown Percentage
Many people wish to spend most or all of the money they’ve worked so hard to earn and invest during their lifetimes. Others want to make sure they leave an inheritance for their spouse, children or charities they support.
The term "drawdown percentage" is most often used outside the U.S. (such as the U.K.), while within the U.S., the term "withdrawal rate" is more common.
Drawdown percentages can be difficult for individuals or couples to calculate accurately. Many financial experts find that it can be easy to over or under calculate how much money one needs to live on through retirement. To combat the difficulty in determining how much you need to live on annually in retirement, a common rule of thumb is to take 4% of the principal amount saved annually, adjusted for inflation. Inflation is the rate at which prices rise in an economy over time.
The 4% rule is supposed to maximize one’s chances of having enough money to last through to the end of one's life and is based on a 1994 study by financial planner William P. Bengen. His study used stock market data, and average investment returns to determine that 4% was the highest percentage that an individual could withdraw so that their retirement money could last 30 years. The study assumes a portfolio made up of 50% intermediate-term Treasury bonds and 50% stocks, based on historical investment performance and inflation rates. It is expected to ensure that the retiree’s nest egg lasts a minimum of 33 years and "in most cases it will lead to portfolio lives of 50 years or longer."
Limitations of the Drawdown Percentage
The 4% rule has come under criticism by academics and financial experts in the years since the Great Recession. While the 4% historical drawdown percentage can be a helpful guide, it may not be entirely accurate for today’s retirees.
For example, critics of the 4% drawdown percentage say many people will experience less than 33 years of retirement because they will work beyond age 65, and/or because of poor health. Others point out that overall market performance has changed since the rule’s development in 1994.
Usually, the best way to calculate the drawdown percentage for your own nest egg is to consult an independent financial planner who can look at your age, your financial needs, and your portfolio to determine a more precise percentage.
Guaranteed lifetime annuities are increasingly popular nowadays as a way to guarantee a steady flow of income for one's life after retirement. While annuities have been criticized in the past for being overly expensive up-front and illiquid, many are now recognizing the benefit of a lifetime income that cannot run out or fluctuate with the market.
Can I Retire at 62 with 100K?
Not really. Using the 4% rule, which attempts to guarantee 33 years of retirement, you would withdraw only $4,000 per year, which is not enough to live on. Put another way, $100,000 would cover only a handful of years of living expenses for most people, even if you live frugally.
How Much Money Do I Need to Retire Comfortably?
This depends on where you plan to retire, as well as your intended lifestyle.
A Charles Schwab survey conducted by Logica Research that was based on 1,000 people who participate in 401(k) plans found that on average, people believe they need to save $1.8 million to have a comfortable retirement.
Using the 4% rule, a $1.8 million nest egg would leave you with $72,000 per year in retirement.
What Is the Average Retirement Savings by Age?
In 2022, the average American family had $334,000 saved for retirement, according to the the Federal Reserve Board's Division of Research and Statistics.
But this average (also known as the mean) is far higher than the median, which is often a more useful number. The median—that is, half of families saved less for retirement, and half of families saved more—was $86,900.
The reason the mean is less helpful than the median is because the mean is skewed by the retirement savings of higher net worth families.
Take, for example, the retirement savings of the top decile of respondents, who were between 35 and 64 years old. The top group had saved $913,300. That's far higher than the upper-middle income group ($226,700) and families with incomes in the bottom half of the survey ($54,7000). This means half of American families saved just 3% of what most people believe they need to save for a comfortable retirement ($1.8 million, see above).
The Bottom Line
Historically, a wise drawdown percentage would be the 4% rule. Under this guidance, a retiree with $1 million in a retirement account would have $40,000 in annual income to live on. However, this is an imperfect metric, and you should discuss with your own financial planner what works best for you.
