4 Steps to an Early Retirement

Our topic on this episode of the Ready for Retirement podcast is about understanding how to plan for an early retirement if you want to retire before your full retirement age. 

Questions to ask ourselves: Why do you want to retire early? Do you not want to work at all? Do you want to work part-time or change careers? What does retirement really look like if everything were to stop today?

Are you ready to start focusing on the things that truly matter when it comes to your financial future?

Key Points

• 4 Steps To An Early Retirement
  • Ask Yourself Why
    • Why do you want to retire early? Do you not want to work at all? Do you want to work part-time or change careers? What does retirement really look like if everything were to stop today?
    • Are you going to rely on your portfolio and Social Security income for the rest of your life or are you going to simply have another career that may well cover the bills but not allow you to save as much?
    • We’ll assume for the rest of this episode that your “Why” is to not have to work throughout retirement.
  • What Is Your Retirement Budget?
    • Dependent on lifestyle
      • Do you want to hike and do volunteer work in your own community? If so, your retirement budget may require less income than if you wanted to travel the world or purchase a second home.
      • Do you want to retire and stay at 5-star hotels around the world?
    • Check out Episode 7 to help determine how much it will cost to retire – How Much Will It Cost To Retire?
      • Will you have a mortgage paid off when you retire? Will you have student loans? Credit cards? Do you have children at home? Are you hoping to downsize in retirement? Do you give a % of your income? Are you saving today to savings accounts or IRAs/Roth IRAs?
      • It’s important to note what expenses may go away when in retirement.
      • If your mortgage is $3,000/month today, but the mortgage is paid off in retirement, and income is currently $10,000/month, you would only need $7,000 in retirement.
      • If you currently save $500/month (each spouse) to a Roth IRA/IRA and no longer pay that in retirement, you now need $6,000.
      • If you have children at home you support that averages $1,000/month, all of a sudden you have $5,000 left.
      • In retirement, you may no longer be paying yourself for the investment account, mortgage, home upkeep, etc. 
    • Healthcare
      • Taking the same example, if you have $5,000/month leftover, you may want to factor back in healthcare costs that may be low today, but increase in retirement.
        • Assume it’s $1,000/month for health care for a couple. You may want to add that back in. 
        • Is life insurance covered by your employer? If so, you may want to add that back in as a future cost in retirement to ensure your spouse doesn’t have to change his/her quality of living.
      • Any employer-paid expenses should be added back into your retirement budget assuming it’s something you would like to keep.
    • Travel
      • If there is travel today that is included in the $10,000 example, no need to add that to your retirement budget as it is already counted.
      • The difference between what you’re paying today for travel and how you want to travel in retirement should be added back to your retirement budget if you’re not currently paying for it. 
  • Understand Tax Implications & Penalty
    • IRAs/Roth IRAs/401(k)/etc.
      • The IRS gives incentives to invest in these accounts under the assumption you don’t pull the funds out until retirement, which is determined as age 59 ½. 
      • If you want to retire prior to 59 ½ , there are penalties and tax implications associated with the withdrawal of funds.
    • Traditional IRA
      • You cannot take funds from your Traditional IRA without a 10% penalty before 59 ½, in addition to the taxes.
      • Once you turn 59 ½, you avoid the 10% penalty, but still owe taxes.
    • 401(k)s
      • You can take funds out at age 55 if you leave unemployment at age 55 without penalty. 
      • Example: If you are 54 ½ and retire, you won’t be eligible to take funds out within the penalty. You must have stayed the additional six months to reach age 55 while you’re with the corporation to avoid the 10% penalty. 
      • If you roll a 401(k) into a Traditional IRA, the funds cannot be withdrawn without penalty until age 59 ½.
      • A 401(k) may be a great tool if you want to retire at age 55, but you would likely not want to rollover into a Traditional IRA.
    • Roth IRA
      • With a Roth IRA, you can access your contributions at any time, but the growth cannot be accessed until age 59 ½ without penalty.
        • Example: For 10 years, you put $5,000/year into your Roth IRA. Let’s assume the portfolio has grown to $120,000. You have put in $50,000 and the growth is $70,000. 
          • The $70,000 of growth must not be withdrawn until age 59 1/2 if you wanted to avoid penalties.
      • A Roth IRA must be held for five years to be fully accessible for tax-free withdrawals.
      • Think of a Roth IRA as a long-term investment account and an account to access funds should you wish to retire early. 
    • Taxable Accounts
      • Joint Accounts, Trust Accounts, etc.
        • These accounts can be accessed at any time and offer complete flexibility, but do not grow tax-free. 
        • This can be a great account to pull from when taking an early retirement. 
  • Know Your Withdrawal Rates
    • How much can I safely take out of a retirement portfolio for retirement? How can I ensure I won’t outlive my money? 
    • Check out Episode 27 – How Much Can I Safely Spend In Retirement?
      • On average, a sustainable withdrawal rate can be seen as 4-5% if you are retiring at a traditional retirement age. 
      • If you’re going to retire early, the question is, how large of a portfolio do I need to ensure I don’t outlive my money?
    • The 4-5% withdrawal rate holds true if you are retiring at a traditional retirement age, but likely not suitable if you want to retire early, as you will likely need income for many years.
      • 3-4% may make more sense as a withdrawal rate if you want to retire early to ensure you don’t outlive your money, but it’s best to speak with a financial planner to discuss what would work best for your individual situation.
    • Example: Let’s assume you need $60,000 from your investments and you retire at age 65. If you determine you can take out 5% to live in retirement. 
    • Take $60,000/year of expenses and divide by 5% which shows $1,200,000 can create $60,000/year of income for 30+ years assuming your income remains the same.
    • Let’s assume you retire at age 45 instead of 65 and you can only take a 3% withdrawal rate, to get the same $60,000/year of income, you would need $2,000,000 to do so as you are dividing $60,000 by 3% instead of 5%.
    • This is all assuming the funds are tax-free, so taxes would need to be calculated in addition to the numbers above.
    • If you want to assume a 20% tax rate, to create $60,000 of net income, you would need $75,000 of gross income which you would divide by 3%, which would be $2,500,000 in the example above.
  • To summarize:
    • Ask yourself why you want to retire
    • Determine your retirement budget
    • Understand the tax implications & penalties
    • Know your withdrawal rates

Timestamps

2:30 – Overview of Early Retirement

4:00 – What A Retirement Budget Looks Like

5:30 – How To Determine Retirement Expenses

7:00 – Expenses To Be Aware Of When Retiring Early

9:07 – What To Know Before Leaving My Employer To Retire

11:00 – Importance of a Retirement Analysis

12:07 – Withdrawal Restrictions of Retirement Accounts

14:30 – Funds to Withdraw From If Retiring At Age 55

14:51 – How To Manage Roth IRAs in Retirement

19:09 – How Large of a Portfolio Do I Need to Sustain My Expenses?

22:22 – Tax Implications Of Retiring Early

23:30 – Overview of Retiring Early: Everything I Need To Know

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