In Money for Something, we talk about viewing wealth in terms of the income it can generate — i.e. in terms of the four percent rule.
Based on a number of studies to determine a reasonable “draw-down” rate for retirees, there’s a rule of thumb which states that if you withdraw no more than four percent of your sensibly-invested savings per year, you’ll likely never run out of money.
So, if you could live on $40,000 per year, then you’d be financially free once you’d saved and invested an amount of one million dollars — regardless how old you are.
Interestingly, this rule of thumb can also be used in reverse.
The other day I was speaking with a retired couple who, from their employer-provided individual retirement plans (to which they contributed during their working careers), receive about $6,000 per month, for as long as they live. Talking to them, it was interesting to hear the husband ponder what he’d do, if he were “a millionaire”.
Well, in a sense, he is!
Based on the four-percent rule, how much would you need to have saved to generate an income of $6,000 per month? — $1,800,000!
Understanding how to view wealth is just one of several important aspects of money management. For a complete and easy-to-read introduction, be sure to read Money for Something.