How The 4% Retirement Rule Converts To Dividend Investing

Mar. 29, 2012 10:05 AM ET53 Comments
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Intelligent Speculator

A common rule that has been applied both by individual investors and financial planners/brokers is the 4% rule. What is it? Basically, if you try to plan your retirement, you should expect to be able to retire 4% of your capital in the first year. Then, you can increase the amount that you withdraw every year to account for inflation. If I take someone with a $1,000,000 retirement savings portfolio retiring today that would mean:

$40,000 to spend this year

If inflation is 2.5%, that would mean $41,000 to spend next year and so on

The objective is to set realistic expectations of how much should be spent and how much should be saved in order to avoid outliving your retirement savings. The rule has been a great rule of thumb and one that I personally think is very useful when planning years and even decades ahead. Since retirees generally end up having a very conservative portfolio, the 4% withdrawal does mean selling assets over time and eventually leaving some amount for family but not a whole lot in most cases.

Enter Dividend Investing

One of the main differences between retiring with a traditional savings portfolio and a dividend portfolio one is that the ultimate goal is to be able to live off of the dividends and hopefully avoid selling any of the stocks. In such a way, there is very little to worry about in terms of outliving your expenses but it also means being able to leave a significant amount behind when that moment comes. I think those benefits are very significant.

Ideally, I think someone would look for a dividend portfolio that is similar to the Ultimate Sustainable Dividend Portfolio, a portfolio that yields 3% or so but that can generate dividend growth of 4% very easily. I consider those

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