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By Thomas Muellner
Early retirement is a phrase a growing number of Americans wish they could turn into reality — and who can blame them? The prospect of signing off at age 40, 50 or 60 to travel the world, take up a new hobby or simply spend time with family and friends is all too enticing; however, it’s far easier said than done. It typically requires years of planning and financial discipline to pull off, not to mention a steady income and a bit of luck.
Still, many up-and-coming workers want nothing more than to lock in their financial independence before old age. If you’re in this group, keep these tips in mind as you build your nest egg for the great escape of early retirement.
The poetic dilemma of early retirement is that once you’ve stopped working, you’ve still got decades of time in front of you to spend money (and enjoy life, hopefully). It sounds like a terrific deal at face value, but it means you may need your savings to last you 20 to 30 years longer than the average retiree.
Taking into account that retiring during your peak wage earning years may also mean leaving hundreds of thousands of dollars in potential income on the table, the challenge is clear.
As a first step, you should estimate the amount you’ll need each year post-retirement to live comfortably, accounting for housing costs, medical expenses and any discretionary spending. Financial advisors typically recommend having between 70 to 80 percent of your working salary per year, though some retirees may be able to live on as little as 50 percent of their current wages. From there, you can begin to understand the savings and investments you’ll need to maintain your lifestyle.
A surefire way to extinguish your dream of an early exit is to get out of control with spending and debt.
Because income can fluctuate significantly based on your job situation, it’s often best to look at your individual spending patterns at the outset of early retirement planning. This helps create sound financial footing and tees you up to start saving extra cash.
If you’re in the early or middle stages of your career, set up your monthly budget to invest 10 to 15 percent of your salary and work your way up from there. Retirement planners suggest that saving 15 percent of your pay over 30 years can help to ensure you’re in good shape to retire at 65, so make that your baseline goal.
But if you’re truly dedicated to an earlier exit, you may need to bank between 50 and 75 percent of your paycheck during your working years, which means living with a lot less in the moment.
The changes to your living situation can be extreme, but they don’t necessarily have to be. Here are a few examples of ways to trim your living expenses:
Do what feels comfortable for you, keeping in mind that the decisions you make today will impact the decisions you’re able to make tomorrow.
When it comes to saving for the future, compound interest is your best friend. If you’re serious about early retirement, it’s imperative that you begin saving as early as possible. Contribute the maximum allowable amount to tax-deferred retirement savings options – for most workers, that’s $18,000 to a 401(k) or $5,500 to an Individual Retirement Account (IRA) if you’re under 50 (but $24,000 and $6,500, respectively, starting the year you turn 50 and qualify for catch-up contributions). Add to that a Roth IRA account – $5,500 annually, plus $1,000 if you’re over 50 – if your adjusted gross income doesn’t exceed Roth income limits. Then consider putting money into additional taxable investments.
Progressive retirees treat their retirement reserves as an investment portfolio rather than a simple saving account. This allows them to live off a percentage of interest rather than straight withdrawals. Though it may sound like an extraordinary task, saving 25 to 40 times your desired retirement income could allow you to live independently without ever depleting assets, assuming standard inflation and a moderate rate of return (though of course, nothing in the stock market is ever guaranteed).
Finally, it’s important to consider that, as an early retiree, you won’t be eligible to receive government benefits until age 62 at the very earliest. That’s a long time to go without the cushion of a supplemental income.
For Baby Boomers, full Social Security benefits aren’t paid until age 66, while retirees born in 1960 or later will have to wait until they reach age 67 to cash in. Claiming Social Security benefits ahead of schedule may result in a permanent monthly payout reduction of between 20 and 30 percent, which is no bargain. Similarly, if you’re eligible for a pension and collect before age 65, you may have to take up to a 30 percent cut.
But regardless of when you claim benefits, don’t expect them to cover the entirety of your living costs. On average, Social Security accounts for just 34 percent of the aggregate income of Americans age 65 and older, with remaining income coming from employer-sponsored retirement plans, wages and other sources.1
Without an employer-sponsored plan, you’ll also need to handle health insurance on your own until you’re eligible for Medicare at age 65. Prospective early retirees caught a break with the Affordable Care Act, which provides greater cost-effective insurance options, but premiums can still add up to hundreds of dollars each month.
Whether you want to snorkel in the Caribbean, improve your short game or learn to crochet, getting out of Dodge before you hit your golden years is a dream that’s well within reach if you dedicate yourself to it. It’ll be worth it once you get there, but be prepared to make some sacrifices along the way.
Want to see if you're on track with your retirement goals? Contact Alliant Retirement and Investment Services at 773-462-8822 to schedule an appointment with a Financial Consultant who can help you with your financial plan.
1. Fast Facts & Figures About Social Security, 2015
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
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