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Income Investing for Beginners - a 10 Part Guide to Successful Income Investing

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How Much Cash Should I Expect from an Income Investing Portfolio?
Income Investing Dividend Pie

One of the most important decisions you'll make when you design an income investing portfolio is deciding how much money you can safely withdrawal each year. The more money, the higher your standard of living, but the faster you run out of cash.

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The rule of thumb for income investing is that if you never want to run out of money, you take 4% of your account balance out each year. This is commonly referred to on Wall Street as the 4% rule. (Why 4%, you ask? If the market crashes, 5% has been shown in academic research to cause you to run out of money in as little as 20 years, whereas 3% virtually never did.)

Put another way, if you manage to save $350,000 by retirement at 65 years old (which would only take $146 per month from the time you were 25 years old and earning 7% per year), you should be able to make annual withdrawals of $14,000 without ever running out of money. That works out to a self-made pension fund of roughly $1,166 per month pre-tax.

If you are the average retired worker, as of 2009, you receive $1,153 in social security benefits. Add the two together and you have monthly cash income of $2,319, or $27,828 per year. All else being equal, an income investing portfolio structured this way wouldn't run out of money, whether you lived to 67 or 110 years old. By the time you retire, you probably own your own home and have very little debt, so absent any major medical emergencies, that should allow you to meet your basic needs. You could easily add another $5,000 or $6,000 to your annual income by doing part-time work in the community.

If you're willing to risk running out of money sooner, you can adjust your withdrawal rate. If you doubled your withdrawal rate to 8% and your investments earned 6% with 3% inflation, you would actually lose 5% of the account value annually in real terms. This would be exaggerated if the market collapsed and you were forced to sell investments when stocks and bonds were low. Within 20 years, however, you would only be able to withdrawal $500 to $600 per month at a time when that represented the same as only $300 today.

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