In 1994, Michael Bengen forever changed the future of retirement planning with the proposal of a concept now often referred to as the 4% rule. Using historical data, Bengen tried to find a safe retirement withdrawal rate. The goal was to make sure that retirees never outlived their money.

And Bengen’s study concluded that 4% was the magic number. More specifically, Bengen said that retirees could withdraw 4% in the first year of retirement, followed by inflation-adjusted withdrawals in each following year. Learn more about the 4% rule.

So, using the 4% rule, you could safely withdraw $40,000 from a $1 million portfolio in your first year of retirement.

6 Ways to Live On 4% of a Million Dollars When You Retire

Is that number lower than you expected? If so, don’t fret. With savvy retirement planning, you can live on 4% of a million dollars when you retire.

And these six strategies could help.

1. Take advantage of tax-sheltered retirement accounts

If you want to get the most of your retirement money, you’ll want to avoid paying unnecessary tax. And saving money in retirement accounts is one of the best ways to do that.

Roth IRA Accounts

If you’re looking to stretch retirement income, a Roth IRA is a great tool to have in the retirement toolbox.

You will pay income tax on the money in the year that you make your contribution. But then you’re done paying taxes on your retirement money. From that point forward, your money grows tax-free. And you won’t have to pay tax on your withdrawals, which makes that $40,000 stretch further.

And Roth IRAs are especially useful for early retirees. Here’s why: although you have to wait until age 59 to withdraw your earnings, you can take distributions from your initial contributions at any time.

So let’s say out of a $1 million Roth portfolio, you made $150,000 worth of contributions and the rest came from growth. In that case, you could use that $150,000 before age 59, while the other $850,000 continues to grow until you reach retirement age.

Traditional IRA and 401(k) Accounts

With Traditional IRAs and 401ks, your contributions earn you a tax deduction in the year that you contribute. And any money that isn’t withdrawn in a given year continues to grow tax-free, which eliminates tax drag and helps you achieve a higher overall return.

But, you will need to pay income tax on your distributions. So if you have a lot of money saved in pre-tax retirement accounts, you’ll want to keep that in mind when you’re making your retirement calculations.

And you cant take money out of your Traditional IRA or 401(k) account before age 59 without incurring a penalty.

2. Use properly diversified portfolios

If you want your $1 million to last 30 or more years, you’ll want the principal balance in your portfolio to continue to grow even after retirement.

Target Retirement funds will automatically change your asset allocation to become more conservative as you near retirement. But if you want your money to continue to grow at a high rate of return, a Target Fund may not be your best choice.

Instead, you may want to use a robo-advisor that will allow you to pick whatever mix of stocks and bonds that you feel most comfortable. The best robo-advisors available today build custom portfolios to match your risk preference, automatically rebalance, and apply advanced techniques like tax-loss harvesting.

And robo-advisors are affordable too. Annual advisory fees typically range from 0.25% to 0.50%. Check out our list of the best robo-advisors.

Brand Best For
Ally Invest Portfolio diversification
Betterment Passive Investors
Wealthfront First time investors
Personal Capital Large Investors

3. Pay off your mortgage before you retire

For most of us, our mortgage is our largest monthly expense. So if you’re able to pay your mortgage off before you retire, you’ll be taking out a major roadblock to retirement.

If you have a $1,000 mortgage, you’ll immediately save $12,000 a year once your mortgage is gone. And if you have a $2,000 mortgage, you’ll save $24,000 per year.

That’s more than half of the $40,000 that you’d be living off of in Year 1 of retirement with a $1 million portfolio!

That’s truly a game changer. And it could make a huge difference in how early you’re able to retire on 4% of a million dollars.

4. Consider healthcare costs

Medical expenses often rise in retirement. And if you don’t have a good plan for handling healthcare costs, they may be higher than expected.

According to Fidelity’s 2019 Retiree Health Care Cost Estimate, a 65-year-old couple retiring in 2019 can expect to spend $285,000 on healthcare throughout retirement. That’s a significant chunk of change. So how can you prepare?

Medicare and Medigap policies

If you retire on or after age 65, you’ll be able to sign up for Medicare. But Original Medicare doesn’t cover things like Copayments, Coinsurance, and Deductibles.

You may want to consider signing up for a Medigap policy as well to limit your out-of-pocket expenses.

Health Savings Accounts (HSAs)

Another great way to pay for medical expenses in retirement is to save money in a Health Savings Account (HSA). Health Savings Accounts are amazing in that they offer triple-tax benefits.

First, you get a tax deduction for the money that you contribute. Second, if you invest your HSA funds, they grow tax-free. And, third, distributions are tax-free as long as the money is spent on a qualifying medical expense.

And get this. After you reach retirement age, your HSA funds can be used on any expenses without penalty. So HSA accounts essentially become like an additional IRA or 401k once you reach age 65.

But what if you plan to retire before age 65? In that case, you may want to focus even more on HSA contributions because it could help cover your medical expenses until you qualify for Medicare.

Just keep in mind that you’ll incur a 20% penalty if you use HSA funds on anything besides medical expenses before age 65. And you need to be enrolled in a high-deductible healthcare plan in order to open an HSA. Learn more about Health Savings Accounts.

5. Don’t forget social security!

So far we’ve been talking as if the 4% of your million dollars will be your only retirement income. But for most of us, that’s not the case.

If you worked (and paid Social Security taxes) for at least 10 years, you should be eligible to receive Social Security benefits as well. Don’t forget to add your estimated Social Security retirement benefits into your retirement calculations.

When should you take social security?

You begin taking Social Security benefits as early as age 62 or as late as age 70. Full retirement age depends on when you were born. If you were born in 1960 or later, it’s age 67.

If you start Social Security as early as possible (at age 62) your benefits will be reduced by 70%. And if you delay benefits beyond age 67, your benefit will be incrementally increased until you reach age 70.

So what’s the best strategy? In general, you’ll receive more benefits overall by delaying Social Security Benefits as long as possible. If you can live on your 4% by itself until you reach age 67 or 70, you’ll enjoy more Social Security supplemental income for the rest of your life.

However, if you’re in poor health or your family has a history of shorter-than-average life expectancy, you may want to take benefits earlier.

Estimate your social security retirement income

Use the SSA’s social security calculator to estimate how much social security income you can expect to receive. You can also look at how much social security benefits you’d receive by taking them as soon as you can vs. waiting a few years.

While the SSA calculator isn’t perfect, you’ll at least be able to estimate how much additional income you’ll receive each year from Social Security in addition to your retirement savings.

6. Develop additional income sources

As mentioned above, the 4% rule only takes withdrawals from your retirement portfolio into account. But you may be able to build passive income streams to supplement your portfolio withdrawals.

For instance, if you own one or two rental properties in retirement, that could easily net you an extra $1,500 to $3,000 worth of income per month.

Renting out a room of your primary residence on short-term rental sites like Airbnb or loaning money on peer-to-peer lending sites are two more ideas.

Related: 7 Passive Income Ideas

If you don’t have passive income opportunities, you could also start a side hustle to provide a little extra income here and there. And if you plan to receive a pension in retirement, you’ll want to consider that as well.

The more money that you’re able to bring in outside of your retirement portfolio, the more financial flexibility you’ll be able to enjoy in retirement.

Bottom Line

It’s completely possible to live on 4% of a million dollars when you retire. But you’ll want to reduce your expenses beforehand and be strategic about where you save your money.

And if you’re able to build additional income streams in retirement, you’ll have even more flexibility to spend money on the things that bring you joy.