Use the 3-4-5 Rule to Build a Confidence Interval from Outliving your Retirement Funds*

Let’s start with the 4% withdrawal rule. The rule states that , if you never spend more than 4% of your investment asset balance each year, then you increase the odds of living your retirement life with lower risk of running out of money.

But that is just a guideline, not a rule. It is not a guarantee, but in increases the likelihood.

Note that the huge part of our post retirement financial risk is determined by the sequence of returns and inflation during the first few years, or the first decade, if you may. As covered previously, one need to adjust the strategy based on actual performance of his or her retirement/investment assets and certainly should not blindly increase the amount spent every year by the inflation rate.

In summary:

  • Only increase your spending if your investment asset is growing. Else, keep your previous year expenses.
  • Reduce to 3% spending of investment asset during bad times, when asset not growing.
  • Reward yourself to 5% spending of investment asset during good times, during economic boom.
  • You could spend more in your early years then reduce spending (forego inflation increases) in later years when you don’t need as much money
  • You could spend more in the early years and reduce your spending if you are unfortunate enough to endure an adverse returns sequence in the first decade.

These are the mix-and-match variations on how to approach withdrawing money. The bottom line is, you don’t have to be a robot and mindlessly follow the inflation rate into eventual financial tragedy. Adjust spending based on actual results (growth or decline) of investment portfolio, not based on behaviour or conventional retirement model.

To rephrase the points above, the strategy employed now is annual withdrawal tagged to a fixed percentage of your principal (aka retirement asset balance). This virtually eliminates risk of failure but causes variability in income based on portfolio value fluctuations. As the retirement balance rises, you will withdraw more and as your assets fall you will withdraw less. Whether or not your spending keeps up with inflation would be determined by the growth of your assets.

Flexibility and rationality are the keys. This will alleviate the risk of running out of money.

One-size-fits-all is a static concept used in conventional retirement plan or calculator. They are naive and dangerous. Don’t buy into it, even sometimes it is conventional wisdom.


  • choong

    Reply Reply January 19, 2013

    We want to enjoy our retirement after working hard for so many years. This is a reward that I think all retirees are looking forward to. What is the point of having millions in the bank when I am 100 years old and cannot enjoy it. I am not saying that we should spend lavishly but we should have a reasonable and balanced lifestyle so that we can enjoy our golden years without worrying about running out of money and also we do not want to waste these years by living too frugally.

    By the way, I think 2400/mth expenses is a bit on the low side for an average family with 2 children living in the city. Since you are factoring in the children’s university expenses after 55 years old, I assume that this person at 55 will still have children who are still schooling and 2400/mth is not enough.


    Reply Reply January 19, 2013

    Agreed. I humbly propose that perhaps, a retiree reduce the legacy to be left over the children. Using the same sheet here, if a retiree were to keep monthly expenses to around 4k/month from 55 until the age of 70 while keeping 6% conservative return a year, one would still have about 1/2 million balance at age 70.

  • KS Lim

    Reply Reply June 26, 2013

    CF, I understand that this (3-4-5)% Golden Rule is a guide on how to monitor our expenses during retirement. Depending on the retirement fund that has been built, and the retiree’s personal circumstance during retirement, this rule can be modified to fit one’s needs.

    If one has built up a sufficient retirement fund, one will be able to live comfortably. Personally my retirement fund will not be accumulated with the intention to leave a legacy, but I see a need to ensure that it will not run out while I still need it. If there is any left over after my wife and I have passed on, then the remainder will be the legacy. I do not want to be dead broke before I am dead.

    Given the current growth in inflation and costs of food and medicines, whether a retiree will be able to leave behind a legacy will also depend on where the retiree chooses to spend the retirement years. Choosing to live in a cosmopolitan city like KL compared to a rural town like Balik Pulau will have a tremendous impact on what is deemed sufficient monthly expenses and how long the retirement fund will be able to last.


      Reply Reply June 26, 2013

      Running out of money before life runs out, exactly. That is what I believe, giving people’s an option to see their retirement landscape on what they do today – instead of telling people what not to do (which can get pretty annoying)
      Do you know about this 3-4-5% rule before this, KS?

  • KS Lim

    Reply Reply June 26, 2013

    This is the first time I am coming across this rule.
    Prior to this, I was only aware of how to try to control your monthly withdrawals such that the retirement fund can at least last till the expected life expectancy. And the principle I was following is not the mortality rate, but rather the age of death of your immediate family. I was told that one can expect to live to be at least as old as your oldest relative, before taking into consideration the medical advancements since then.

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