Since the inception of our early retirement blog, many people have asked us just exactly why we would spend our time creating an a blog about early retirement?
While we have families as well as other business obligations, (read our bio’s here,) we share the desire to live life on our own terms. We have worked from home, (well before the pandemic made that normal) the beach, or wherever the best wireless connection and scenery has provided us dating to the early 200o’s, and many people have asked us how this has been possible. For starters, we have enjoyed the profession of Digital Marketing, but the more profound answer is that we are so confident in our investment structures that we know we’ll be able to retire early, and on our own terms, and we’d love it if we can help others do the same.
Most workers dream their whole lives about retiring, and they may hear of the option to retire early. Though it doesn’t have to be a pipe dream, you need a plan for retirement, whether you do it at the normal age or earlier than that.
Many people feel that 55 is just too early for retirement. There could be unforeseen expenses and other things that are out of your control that you can’t fathom.
Having a job now means that you know your quality of life. When you quit, you might not be sure what else you could do. For more and more people, the reality is that they don’t have the experience to make such a decision because of all the unknowns.
Therefore, this guide is here to help you understand if early retirement is something you should consider and how to go about it. That way, you make plans for everything and avoid some of the pitfalls others have had in your situation.
Early retirement is seen as anything before age 66.6 to 67 years old based on the Social Security Administration. Those who have IRAs and 401(K)s can start taking money out at 59.5 with no penalty.
However, age is more than just your life in years. It takes into account many things, such as your health, well-being, savings accounts, investment options, and all the rest.
Is Age 55 Too Early for Retirement?
Perhaps you have a lot of experience and have worked hard all your life. You want more time for yourself to enjoy that success. Others are offered an early retirement package based on their age and feel that they should take it.
Regardless, retiring at age 55 is early, and some investors may feel that it’s too early. If you’ve diligently saved money and can handle those lifestyle changes and expenses, it could be doable.
Top Challenges for Retiring at Age 55
Here are the top challenges of retiring at age 55 (or anywhere before normal retirement age:
More people find that they want to retire earlier than normal, but you need the experience to know if you can do it yourself. Typically, this requires you to have many investments in your portfolio and help from a financial advisor.
Rule-free and Penalty-free IRA Withdrawals at 59.5 Years Old
Once you retire, you might not be allowed to access the money in the IRA without the 10 percent penalty. Taking early retirement isn’t an exception for that 10 percent penalty for early withdrawals from either a Roth or traditional IRA. Therefore, you might be required to wait until age 59.5 to access the account.
In addition to the age limit of 59.5, the account has to be opened five years prior for Roth IRAs. You can withdraw the contributions penalty-free and tax-free, but not the growth or earnings.
There is a way to use those funds from the IRA before you turn 59.5. However, you may find that there’s little flexibility.
With that, there are more things to ponder. For example, your life expectancy might be longer, so you need to have the funds necessary for longer periods.
Taking Cash from an old 401(k) or IRA at Age 55
Early retirees can access money from an old 401(k) or IRA before age 59.5 without a penalty through SEPP (Substantially Equal Periodic Payments). However, there are rules involved.
You can choose one of three distribution methods approved by the IRS. The required withdrawal is calculated based on that method. You aren’t in control of how much to remove and when.
The payments have to continue for five years or until age 59.5, whichever is the latest. If you start the SEPP program at age 55, you can stop at age 60. However, if you don’t follow the SEPP rules, it triggers interest and penalties.
Remember that distributions from an IRA or traditional 401(k) are taxable as regular income. If those distributions aren’t ideal, you end up with less to maintain the lifestyle you’ve grown accustomed to. With that, if you have been at the job for a while and have a larger account, the SEPP could mean you have no control over the taxes and could force you to take even more from the tax-advantaged account than you need before those required minimum distributions start at 72 years old.
Another option for a certain type of 401(k) plan (not IRAs) is for individuals who retire between 55 and 59.5 to take the money from their accounts after retiring and separated from the service.
There’s no penalty with such a plan, but there’s a mandatory 20 percent income tax withholding from the federal government. Plus, 403(b) and 401(k) plans aren’t required for this provision, so you should review your documents thoroughly.
Too Soon for Social Security
As you work on navigating the income equation to retire at age 55, you must cross off Social Security benefits as potential income sources.
Social security benefits don’t start until 62 years old for retirees. Therefore, you can’t get that benefit into your retirement accounts until much later than you expected.
With that, you should decide if you should file for those benefits as soon as you can or wait to get a bigger benefit amount. You might want to delay Social Security and dip into your other retirement accounts more, even if after you turn 59.5.
However, there is a benefit of doing so. Social security benefits include about 35 years of your average earnings. Unless you began working when you were 20, the SSA uses a $0 salary for the last few years as it calculates the benefits.
What to Do About Health Insurance Options (No Medicare Yet)
It can be tough to pay for health coverage on your own. One way around that is with a spouse who still works where you can join on his or her health insurance plan. Medicare eligibility doesn’t start until 65 years old, so you have to know your health insurance options for age 55. In general, retirees who retire early have five different choices for health insurance before Medicare comes into play:
COBRA coverage usually lasts 18 months when retiring early, and you need about 10 years. Public exchanges can be more affordable than private health insurance, but they can still be expensive.
Typically, health insurance for two adults aged 55 could pay premiums of up to $995 a month for the silver plan if they aren’t eligible for subsidies. More often than not, it’s easy to forget about insurance requirements.
Consider a Higher Savings Rate and Investment Accounts
More and more people seek control over their daily needs after they retire instead of less. To think that you might have restricted access to the retirement savings is less than ideal. However, no one said it was easy to retire early.
You have the best opportunity of living the lifestyle you want in retirement while retiring early if you’ve got investment assets outside of your normal retirement account options. A taxable brokerage account is often the most flexible option. There aren’t any contribution rules or limits about when to withdraw cash or sell funds. However, to get that, you must sacrifice the tax-deferred growth and deductions you get with a 403(b) or 401(k) contribution.
Brokerage accounts can be tax-efficient, though. Long-term capital gains rates are more favorable than for IRA or 401(k) withdrawals, which get taxed as your ordinary income. Therefore, it’s a good idea to consider all of your investment options and needs.
You Need Financial Planning
At any age, you should fully think through the retirement plan in mind (financially and by other means.) Retiring early requires more planning because those traditional income sources aren’t available. With that, you could have more challenges, such as health insurance and more. Here are just a few retirement financial planning tips to consider:
Think about Your Expenses
Estimating the expenses you might have in retirement is hard, and many investors overestimate their retirement spending habits. Whether you are financially able to retire early focuses more on expenses than what you have saved. To put it another way: what you’re likely to spend drives how much you must save so that you don’t end up running out of money.
Here’s a quick example:
You have a portfolio of $2 million and want to take out $100,000 each year with an increase of three percent a year. You could run out of money at age 84, assuming you have a six percent annual return. However, if you only require $80,000 a year, the income could last until you’re 96 years old.
Most people have relatively inexpensive lifestyles, so it might not be challenging to retire at 55. One thing to note, though, is that lifestyle inflation always comes into play. Right now, you can afford it, but what might happen 10 or 20 years from now?
Don’t Underestimate Your Lifespan
One other issue is that a person can live a lot longer now than ever before. Therefore, the savings in your retirement fund have to last longer. Here are a few statistics that J.P. Morgan provides:
Ultimately, the odds of you or your spouse living to 90 or later is about 50/50. Retiring at 55 means that you could spend more time in retirement than working. It does sound nice but making sure you can afford it is harder.
Therefore, it’s crucial to think of retirement age as a stepping stone and go from there.
Stress-test Any Plan
The simple calculation from earlier doesn’t take into account taxes, market volatility, and other changes to expenses and cash flow that could impact that outcome.
To get guidance about your retirement goals and financial situation, you should talk to a certified financial planner. He or she can help you decide if early retirement is an option and what plan you need to take into account.
The plan you come up with to ensure that 55 isn’t too soon for retirement must include the Monte Carlo simulation to account for market volatility. This is ultimately a way to stress-test the retirement plan.
In your analysis, you should consider timing and how it could mess with the plan. Your expenses are usually higher at the start of retirement, but that’s when you’re more exposed to the market downturn. Avoid over-spending and large purchases at the start to have a stronger plan.
If you can take into account everything relating to your plan, there should be no issues. However, it’s hard to do that alone, so consider working with a professional.
How to Retire Early – A Step-by-Step Guide
While it could seem like only a cubicle daydream, early retirement and its freedom are achievable. You must have a specific goal for this in your life and know the steps to take.
Ultimately, you may want to quit work so that you can pursue your passion projects, travel, and just not have to get up for work anymore.
However, to do this effectively, your savings need to be in order, as well as everything else. Here are the primary steps to take for early retirement:
Adjust Your Current Budget on One Page
Here’s where the work comes into play:
Regardless of how you look at it, retiring early requires you to make changes on how you currently spend and earn money so that you can relax in the future. For many people, this means cutting the budget to the bare essentials.
In fact, many people with ambitions for early retirement try to live on about 50 percent of their income or even less. The rest goes directly into their savings as their nest egg.
There are various strategies to get your spending to that level, and some of them are pretty farfetched. Ultimately, getting rid of debt to have a lower principal, including mortgage loans and other “good” forms, is crucial here. However, you must also cut small and large expenses. You need to get creative about saving money on utilities, transportation, housing, and food costs. Instead of owning a car or using public transportation, ride a bike!
Now is the time to bring in extra income to go into the bank so that you can retire early. If you can increase the money you earn, you don’t have to live as frugally now. You can do this through side hustles and investments, living a comfortable lifestyle now and in the future. If that’s the case, keep the car and become a Lyft or Uber driver!
Make Investments that Hedge Against Inflation
This is something that many advisors will tell you, and with good reason. Our retirement savings is eroding quicker than you think.
You need to make investments that will help you hedge against inflation. Many people turn to precious metals to hedge against inflation. It’s wise to think about allocating a portion of your retirement portfolio into a precious metals backed IRA. There are many reputable companies that can help you do this, and we have found GoldCo to be the best company to help our blog’s readers in this quest.
Read more about Gold 401k Rollovers on this page.
Calculate How Much You Spend in Retirement Annually
Here’s the good news about step one:
you’re probably already living on a budget or a small part of the income you make.
In turn, this translates into you needing less money for early retirement. The assumption here is that you continue to require less and save more. Prove that by creating a retirement spending estimate. Look at the current monthly spending amount, consider what might go down and up, and what you may have to eliminate or add.
Add all of that up, multiply it by 12, and that is the magical number: the annual needs for retirement. To make it even better, try increasing that income amount by 10 to 20 percent, so there’s some wiggle room. You don’t know when you might want to splurge a little on a few things.
There are two things that many overlook during this session – health care and taxes. In particular, health care is a big hitch in your plans, especially if you get health insurance through your work. Leaving your job for early retirement also requires you to leave that policy behind. If your partner still has a job, it might work out well to be put on their plan. Otherwise, you should consider the Affordable Care Act or a private insurance plan.
You may also choose to work part-time to get more health benefits or try to qualify for various industry associations that have group coverage.
Taxes are another concern, and the goal is to lower them as much as you can. This means you must have a strategy for pulling income out of the investment accounts.
Some tax-advantaged accounts, such as a Roth IRA or 401(k), have rules in place for when you can take out qualified distributions to avoid penalties and taxes.
Retirees should note the exceptions to those early distribution rules. One that’s very popular with retirees is to begin a series of periodic distributions. If you want to keep taxes low and tap into your investments, it’s best to work with a financial advisor.
Estimate Savings Needs
The work you did earlier to narrow down your spending means that you’re already halfway through this step because early retirees use a couple of rules to get by.
The first is the 25 Rule – You need to have 25 times the planned annual spending saved up before retirement. That means if you want to spend $30,000 during the first year, you need to invest $750,000 in your nest egg savings before you quit. This is a great motivational tool to get your budget in check and know how much money you have/require.
That rule assumes that the nest egg is invested for continued growth. Because of inflation, costs to live are likely to increase a bit each year, so the investments have to keep up with it all.
Therefore, you come to the Four Percent Rule, which focuses on withdrawing four percent of your invested savings during the first retirement year. Every year after that, you draw an amount adjusted for inflation.
Ultimately, the four percent rule stems from various research studies conducted in the ’90s that tested different withdrawal strategies against the historical conditions. You could take a less/more conservative approach based on your risk tolerance, investments, and market volatility upon retiring.
However, you should be aware that neither of those rules is foolproof. No financial advisor is willing to guarantee the results, but they are reasonable methods.
Make Investments that Focus on Growth
Retiring early means that you have less time to save and a longer period to use those savings to support your needs.
Both of those issues mean that the investment return from your portfolio is your best friend. To achieve the most returns, you must invest in a balanced portfolio that focuses on long-term growth. It’s ideal to consider low-cost index funds with allocations toward stocks.
You might actually think the opposite is best. Since you’ve got a shorter time before retirement, you should take less risk with the portfolio. However, the time you spend in retirement is also included, and the money grows within the portfolio during that time.
It’s ideal to get investment advice from someone who knows what they’re talking about. As you approach the date for retirement, consider shifting smaller amounts of the savings into liquid havens to tap into it without selling at a loss. Regardless, now is the time to become best friends with an investment advisor who can help you make the necessary jumps into the world of investing.
Keep Current Expenses in Check
You’ve done most of the work to estimate how much you need for retirement. Now, the hard job is to stick with that amount.
It always starts off small by throwing a retirement party for yourself. Then, you’ve got all that extra time on your hands, so you go on vacation, browse the stores, adopt a dog, and take up cooking. Suddenly, you realize that your four percent has more than doubled.
The four percent rule can only work if you stick with it. It lets you increase the money you spend through inflation but doesn’t withstand larger spending habits.
Each increase in spending, especially recurring expenses, increases the chance that you run out of money. You don’t want to have to run back to your old job because you need more money.
Early Retirement Calculator
Because your goal is to quit work at the age of 55 or a bit later, it’s important to know what costs you might have. Most of the early retirement calculators on the market focus on what you make after taxes and your current savings rate. You input those numbers and the amount you already have saved up. Then, you include your projected expenses each year during retirement and list your annual investment return.
With the numbers below, you can retire in 15 years:
There are various online calculators to help you, including one at NerdWallet and one at Networthify.
Play around with the amounts to get a better idea. Then, call a certified financial planner to help you take the right steps to retire early.
Early Retirement Forum Options
Before individuals hire a certified financial planner, it’s best to know where to go to get more information about early retirement. Here are just a few of the forums out there that could help:
This Facebook group is active and has a radio broadcast and an excellent community. FI is for Financial Independence, and this mindset refers to the financial state where you no longer work to get money to fund your life.
Reddit Financial Independence or Early Retirement Forum
This forum has about 890,000 members and is very active. If you want to become financially independent and not work for your money, this is a great starting point. At its core, it uses the FIRE methodology.
How Possible Is It for You to Retire Early?
Many people want to experience the freedom of not going to work. However, this means having enough retirement benefits to fall back on as you age.
Ultimately, retirement planning is a must. While you can do some of it on your own, it might be wise to consult a certified financial planner. These professionals know how to set up plans so that you may retire early.
Working with an investment advisor is also a good idea so that you have a varied portfolio. You now have the knowledge necessary to focus on retiring early. The next part of the process is up to you. Good luck!