Everyone talks about early retirement, but actually doing it is hard. Here are five things to consider when planning for your retirement.
Confucius once said, “Find a job you love and you’ll never work a day in your life.” However, you can bet the bank that Confucius never experienced an 80-hour work week. If you dream of clocking out for good before your golden years, consider these critical moves to make it happen.
What qualifies as early retirement?
If you ask someone on the street what age is considered “early” for retiring you’ll get multiple answers. That’s because we all have different aspirations and career goals.
If you ask the IRS, early retirement is anyone calling it quits before 59 ½. This is when withdrawals from retirement accounts are no longer considered “early” and no longer penalized 10%. To be frank, I know a couple of 20-year-olds that act 65 and I think 10 minutes into meeting an IRS Rep they’d get a hall pass on 59 ½.
But alas, the rules are the rules. Here are some planning tips for working around them.
5 things to consider when planning an early retirement
If you adhere to these five early retirement planning tips you’ll be on a beach before 65 faster than you can say “Cheeseburger in Paradise.”
Save faster and harder
This one’s first for a reason. If you’re not saving more than the average worker, don’t expect to retire sooner. In a regular case of saving to retire at 65, the rule of thumb is to save 10% to 15% of your pre-tax salary annually. For many early retirees, that’s not enough.
For example, if you expect to spend $100,000 a year in retirement, you’d need $2.5 million in the bank, at a minimum, to call it quits.
Spread the savings
The most well-known retirement accounts—IRAs and 401(k)s—are designated for tax deferment and are the best way to save if you plan to retire at the normal age. Unfortunately, any withdrawal before 59 ½ will result in tax penalties.
If retiring sooner rather than later is your goal, a taxable investment account should be a part of your plan, too. Continue to save into your 401(k), but allocate some of your savings to a brokerage account. Yes, annually you’ll have to report any realized gains you have within the account, but you can tap this account until it’s open season on your retirement plan.
Key your eye on 55
Most people know 59 ½ is when you can access your retirement accounts without penalties, but did you know you can retire early(ish) with the Rule of 55?
The IRS allows any individual to withdraw from their 401(k) plan without the 10% penalty if they’re at least 55 years old and leave their job.
The key thing to note is that this rule only applies to the 401(k) with your current employer. So, it’s important that you have all those old retirement plans rolled into your current plan, or at least have enough money in your current plan to tide you over.
Also note that this rule does not apply to IRAs. IRA withdrawals have to wait until age 59 ½, unless you know this next loophole…
Consider IRAs last
IRAs are a saver’s best friend because of their easy set up and flexibility of investment choices. But to an early retiree they can be a total pain.
The tax deferment with an IRA or tax-free growth with a Roth IRA requires patience, unless you know about the loopholes. There are two ways to withdraw your money before age 59½ without answering to the tax man.
The first is the Roth conversion ladder and the second is electing the 72(t) rule. Under this rule you may start withdrawals from an IRA prior to 59½ as long as “the distributions are made as part of a series of substantially equal periodic payments over your life expectancy.” That means you take distributions of equal amounts on a regular schedule. They also need to last for either five years or until you turn 59½, whichever comes later.
My advice for your early retirement planning toolkit is to consider IRAs as your bottom-of-the-bag option.
Mind your expenses
The last tool for your early retirement expedition is not a type of account or a tax loophole, it’s something bigger…it’s your ability to track expenses and budget!
Countless times I’ve been in meetings with clients who want to retire but can’t because their current spending habits would drain all of their assets within the first five years. Here’s a retirement curveball: Did you know healthcare costs are the biggest elephant — er, expense — in the room?
A recent Barron’s article mentions, “A 65-year-old couple retiring this year can expect to spend an average of $315,000 in medical expenses throughout retirement.” Medicare coverage is every retiree’s parachute but that doesn’t start until 65, and leaving your employer ends group plan benefits and puts you in private health insurance, which is a doozie.
So, before you hit the road to an early retirement, plan for all the big expenses that come with it.
Retire with precision, but live a little too
The thought of never working again is a pipe dream for many people. If you really want to make it happen, start planning today. And make sure you have something to do on the other side.
Goals, aspirations, and work get us going in the morning, so don’t set yourself up for boredom in retirement.