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4% Rule - what is it.....and how does it work...

Discussion in 'General Property Chat' started by sash, 21st Jul, 2015.

  1. sash

    sash Well-Known Member

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    I couple of people have asked about the 4% rule....

    Well there is a belief if you only draw down 4% of an asset base (i.e. say $1m) that asset base would last to for infinity so long as they asset base is solid and of a good quality.

    For example lets say you have an asset base of $1m...drawing 4% plus say 2% inflation this is what can be drawn down:

    Year 1 - $40,000
    Year 2 - $40,800
    Year 3 - $41,616
    Year 4 - $42,448
    Year 5 - $43,297

    The underlying assumption here is that the asset will grow more than 4% to ensure that inflation is covered. So thus the need for good quality assets.

    On the flip side if one want to determine what asset base is needed for drawing an income which is indexed to inflation. You simply divide the income by 4%.

    So for example to get a :

    $25k income you would need $625k in assets
    $50k income you would need $1.25m in assets
    $100k income you would need $2.5m in assets
    $200k income you would need $5m in assets

    You get the picture...now...:D
     
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  2. Pistonbroke

    Pistonbroke Well-Known Member

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    Depending upon the situation, that drawing may be taxed or untaxed eg $40k from rent (taxed) or about $35,500 net vs $40k in retirement phase of a super fund (untaxed).
     
  3. sash

    sash Well-Known Member

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    Yep....not an issue for people on the verge of 60...or more if Abbott has his way...

    But hey I consider Super money as play money anyway....

     
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  4. BingoMaster

    BingoMaster Well-Known Member

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    IMO it's confusing just posting an arbitrary rule, without any reference as to where the data comes from.

    - 4% was known as the "safe withdrawal rate"
    - it came from the Trinity Study on retirement portfolios
    https://en.wikipedia.org/wiki/Trinity_study
    - it refers to a diversified portfolio of stocks and bonds, not property
     
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  5. turk

    turk Well-Known Member

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  6. sash

    sash Well-Known Member

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    I will work on quality property also...just need the asset to be good quality...and diversified across more than 1 state! No mining or small regional towns.....

     
  7. Rixter

    Rixter Well-Known Member

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    LOE portfolio structuring 101.
     
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  8. sash

    sash Well-Known Member

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    Nope....unlike LOE...this is based on hard assets with no debts. :D

     
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  9. Chilliblue

    Chilliblue Well-Known Member

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    Thank you sharing Sash
     
  10. TyroneS

    TyroneS Well-Known Member

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    Hi @sash

    To clarify, is this based on a portfolio that is all paid off and has absolutely no debt?

    Thanks

    -Tyrone

    -------------------------------------------------------------------------------------
    Start small. Be consistent. And watch massive change take hold.
     
  11. The Falcon

    The Falcon Well-Known Member

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    Good stuff Sash, at 46 (9 years from now ) I am now tracking at PPOR unencumbered, $2.3m family trust diversified stock portfolio yielding grossed up 4.5% and $1.3m SMSF. Trust income will be streamed to 2 beneficiaries so very tax effective (That is if I decide to "retire" at that point). Will then apply the 10% rule on distributions (ie. Min 10% of income being added back into capital base each year) and then the portfolio really starts to compound.... This is all doable now with no growth in salary / business performance, despite the outlook being very good on both counts, so this is a realistic baseline.

    Once you have achieved a debt free capital base large enough and live within your means and reinvest some of the income back into the capital base you don't have to worry about much :)
     
    Last edited: 22nd Jul, 2015
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  12. Pistonbroke

    Pistonbroke Well-Known Member

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    Sounds good Falcon. Well planned strategy.

    Who assisted in formulation of the strategy? Accountant, planner, lawyer, taxi driver?
     
  13. The Falcon

    The Falcon Well-Known Member

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    The specifics are all mine Piston. Those are baseline numbers so trying for more, but i'd still be satisfied. We had my fathers 70th a few weeks ago, and it was a wake up call for me that all of our days are numbered. So it kind of crystallised what I am trying to achieve. Rather than chasing huge headline numbers / goals, first get to a defensible beach head, a "fortress" position if you like that is de-risked as much as possible, which is what above is. The "F.U. Money" position

    (warning, language :))


    From there, further business expeditionary actions :) (of which there will no doubt be some) will be using other peoples capital, or very small amounts of ours so downside risk limited, avoidance of directorships etc while still the opportunity for cream and some fun. BUT, the point is I wont have to do this anymore if I don't want to.
     
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  14. sash

    sash Well-Known Member

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    Doesn't matter...but income is worked on the hard equity or cash component only hot on gross assets or anything with debt.



     
  15. sash

    sash Well-Known Member

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    Ditto....I am following a similar strategy where via offsets I am retiring debt at arounf 180-200k per annum...

     
  16. Rixter

    Rixter Well-Known Member

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    Are hard cg assets with low debt a bad thing when everyone else is paying its way?
     
  17. sash

    sash Well-Known Member

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    No Rixter....the 4% rule works only on quality assets which are paid off completely. We would usually exclude stuff with debt as that is more like your LOE strategy.

    The reason you only pull out 4% is because inflation indexation is covered. Note that for this to work...the assets would need to be good quality. Originally this was based on shares, bonds...but it will also work with OZ resi in the major cities - i.e. Sydney, Perth, Melbourne, and Brissie as they are pretty much global cities and have consistent demand.


     
  18. Rixter

    Rixter Well-Known Member

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    When you say drawing 4% is that in the form of a loan? How are you referring to drawing? dividends?
     
  19. sash

    sash Well-Known Member

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    Nope the 4% is drawn on asset growth only...albeit some years the growth may only by 3% others 7%...but over it balances out.

    If a loan is attached it is your LOE strategy...this could happen in parallel...as a supplement but not entirely. I feel that the LOE strategy in the current environment and is its viability is now under review...

     
  20. Tonibell

    Tonibell Well-Known Member

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    But how does it work with property ?

    Why shares it is easy to sell off 4% of them for living expenses.

    With property, as they say, you cannot sell off a bedroom for living expenses.