# Let’s test the 4% rule with EFILYM

 After writing my previous article where I spoke about using the 4% rule for defining ‘safe’ levels of savings to support a Financially Independent lifestyle (for at least 30 years), I got to thinking about using the EFILYM financial simulation application to test the 4% rule.  What better example and at the same time a good demonstration of EFILYM.

### Setting up the 4% rule test case.

 I decided to take a \$2 500 monthly expense as the basis for the test (equivilent to \$30 000 per year). In applying the 4% / 25X rule, this means that to be able to be financially independent, I would need to save \$750 000 before being able to quit my 9-5 job.
 I set up EFILYM with \$750 000 savings and \$30 000 annual expenses:
 I also set up EFILYM to consume \$30 000 of the savings each year (4% of net worth).  I took the initial assumptions that the savings were accumulated before the start of 2019 (1st year of freedom from my 9-5 job, and living in financial independent conditions),  and that there is 0% interest/income from my savings and 0% inflation.  Under these conditions, EFILYM indicates that I have no available cash left for my lifestyle in 2044 – or 25 years later. For the moment the simulation shows only see the possibility to live for 25 years on the savings accumulated, which is not really a solution for full financial independence over 30 years.
 No surprises here 🤓, as we have just taken the 25 years of expenses saved and spent them over the 25 years. But now we have EFILYM set up to test as many scenarios as we dare to run.

 Inflation would be an important impact on our simulation, so let’s take a look starting with 1% inflation.
 What we see is that now the 25 years of savings only lasts us until 2041, or for 22 years. 😬
 And if we went even further and tested 3% inflation?
 With 3% inflationary impact, we see our 25 years of savings only lasts us until 2037, or for 18 years.  This means that a 3% inflation rate can reduce the financial independence period by nearly 30% (7 years).  This is all a bit worrying and if we went no further in the simulation testing, we would probably forget all about our dreams of living a financially independent lifestyle, and stick to our 9-5 job and put ‘that crazy idea’ behind us.
 In reality, inflation depends a lot on where you live. For example for me living in France, the average inflation for the last 20 years has been 1.4%, whereas for people living in the US it has been 2.1% (source: www.macrotrends.net) . In developing countries, it could be nearer to 10%. When you do your tests, make sure you apply a realistic value for inflation based on where you live (or intend to live). Ensure also to understand the positive and negative impacts of any inflationary impact may have on your financial lifestyle plan.

### And the interest and market gain on our savings?

 Of course, we cannot and should not just take the negative aspects into account in our simulations.  We can (and should) make money on our savings by investing it.  Depending upon which country you are in and which type of product you invest in – its definitely reasonable to consider gains on your savings of at least 1% and up to perhaps 10% in some very extreme cases. If I take my case in France. If you get 3 or 4% gains on your investments, you are happy, whereas I’ve seen cases where in the USA for example, 7% gains are often used, and I even saw some cases in India where 8-9% was considered realistic.
 So taking the same approach as we did for inflation, let’s start with a 1% gain on our savings, keeping the 3% inflation from our last test also.
 What would that look like?
 A 1% market gain gives us 2 additional years of financial independence. We have stretched our financial living period to 2039, which is a 20 duration from our 2019 starting point. Still not very comforting, considering that the 4% rule should allow us to live in financial independence for at least 30 years.
 A 1% gain on our investments, however, is highly pessimistic. If you are not making more than inflation, then, in fact, you are losing money, and so far our simulation testing has been too conservative.  Let’s be a bit braver and imagine a 4% gain in our investments.
 What would this simulation look like?
 Taking into account this 4% possible gain, we see a significant impact on our simulation: 9 years! We can now live financially independent until 2048, or for 29 years. This is now approaching what we would expect from the 4% rule (at least 30 years of financial independence). Our simulation shows that with an estimated gain of 1% more than inflation, we are very close to being able to prove that the 4% rule should allow us to live for a minimum of 30 years in financial independence.

### Fine-tuning the simulation for my situation

 Now I’m getting excited! What this simulation is showing is that if I’m capable to make at least 1% over inflation gain on my investments when I’m living in financial independence, I should be able to have a good long period of financial independence living in front of me. Even if I’m a conservative person by nature, its easy to accept that it’s not beyond the realms of the reality to consider that if I’m not working a 9-5 job I should have time to focus on my investments and to ensure that they are optimized. This should bring confidence in that fact that I could expect to have 2% additional gain on my net wealth, compared to inflation.  In my particular case, I prefer to keep the forecasted gain at 4%, but to reduce the future inflation rate to 2%, giving the same result.
 Now, what would this look like?
 As I was running the simulation I noticed that at the 30 mark, I still had around one-third of my assets let to consume (See below graph).  This was extremely encouraging. How long was I going to be able to live for in full financial independence under these conditions?
 Not being able to wait to complete the simulation, I continued.
 The final simulation results show that under these conditions I should be able to live in financial independence until 2053 or for 34 years.  The inflation applicable in 30 years time far outweighs the income to be gained on only a portion of my net worth, and I could only extend my period of financial independence by 4 more years, but we are still able to prove that we can go beyond the 30 year period as defined in the 4% rule.

### Conclusion

 Using EFILYM, the financial simulation application to test the 4% rule has proven interesting.  Not only has it confirmed that the 4% rule makes sense and can work, but it also gives a notion of the conditions under which it will work.
 We have demonstrated that as long as the expected gains on your investments are at least 1% higher than the anticipated inflation rates then you should be able to live for a minimum of 30 years in financial independence starting with a base of 25 years or expenses in savings.
 This also indicates, however, the importance of running a simulation to suit your own personal situation. Running a simple simulation based on a constant withdrawal rate of 4% is relatively simple, but in your own personal lifestyle planning projects, your withdrawal rates will not be linear. This could have a big impact on your final financial independence possible duration. It’s also important to play with the 4% rule, ie: what if I tried 3% or 5%, etc to find a plan that suits your situation and personality.
 Playing with all these factors will give you an excellent understanding of what your Financial Independence (FI) plan should be for you.
 I’d love to have your feedback on your FI plans and any simulations that you have run. Please feel free to leave your feedback and stories in the comments section below.

Credit Photo: Photo by Thomas Chan on Unsplash