Early retirement is a goal that many people strive for. If you wish to retire early, you will need to consider a few critical factors. Among these are:

  • A detailed plan.
  • Effective control of your expenses.
  • Additional savings besides any retirement accounts.

The 90% Rule

The 90% rule is a simple rule of thumb that will help you decide if you can retire. If you can make 90% of your pre-retirement income passively from your investments, you are probably on the way to early retirement. The 90% rule assumes that you do not make any big purchases and will live at about 80% of what you were making when working. If you have paid off a mortgage and other significant debts, and know your budget/expenses well, then you may be able to make a move to early retirement to the next level; If not, the easy answer is, no, you are not ready. 

Early Retirement Challenges To Consider:

  • Do you have sufficient income and savings from non-retirement accounts?

Early retirement is not a reasonable excuse to dip into your IRA before 59½, resulting in a 10% penalty. Additionally, a Roth IRA must have been in place for five years before you can pull anything out of it, and you can only withdraw principal, no growth or earnings. This will negatively affect you, as those withdrawals mean you will have no compound growth for the funds in the future. However, there are certain situations when you can access IRA and 401(k) funds early; these are called Substantially Equal Periodic Payments (SEPP). Several conditions are related to SEPPs, but it is important to remember that once you start a chosen method, you have to continue for five years, even past the 59 ½ benchmarks, and failure to follow these will cause penalties. Some 401(k)s offer early payouts but are subject to 20% federal withholding. Both IRA and 401(k) distributions are considered ordinary taxable income.

  • Know your age of social security eligibility and what you will receive. 

This knowledge is a must when deciding if you can retire yet. Choosing when you take payments and your life expectancy will help determine how much you receive over your retirement. Also, a factor that you will have zero income for your final years for your distribution calculation. You can find a calculator HERE.

  • Have a plan for health insurance.

If a spouse is still working, you can take advantage of their health insurance, but if not, health insurance is a significant financial consideration. You can find a calculator HERE to help you estimate these costs, but keep in mind that they rise faster than inflation. In 2021 two 50-year-olds without any aid would pay $1260 a month or $15,119 per year.

  • Extending the years that money must last challenge.

The earlier you retire, the longer you will have to make your nest egg last Coupled with greater likeliness that surprises will come up, and they certainly will, it is best to know your budgets inside and out before you stress-test your plans. 

Using a professional financial advisor to bounce “what if?” ideas off is warranted. What if you have an unexpected $20,000 expense? What if inflation hits 15%? What if the market goes down 45% in a year? What if all these happen at the same time? What if you live five or ten years longer than expected? These are only a few reasons you should test your finances to make sure you are ready to retire early. 

Early retirement is a dream for many. Doing what we enjoy with loved ones is a goal worth chasing, but knowing our financial position is necessary. Making a wrong decision could be catastrophic when working only one or two more years would avoid such a catastrophe. Know your numbers, get a second set of eyes to confirm your math, and seek the advice of a professional financial advisor to help you find anything you are missing. Doing all of this when you consider retirement will enable you to be confident and enjoy your decision.

If you’re pondering this situation, whether to invest all at one, please feel free to reach out to me at Chase Thomas chtomas@alphawealthfunds.com and I’ll be happy to discuss it and possibly show you better strategies to accomplish your goals.