WRITTEN BY: Autumn Lax, CFP® AIF®
I work with a lot of young professionals and there is a growing number of people in their 20s and 30s who want to retire early.
You may have even heard the acronym "FIRE" before, Financial Independence Retire Early.
Fortunately, it’s easier to work towards early retirement when you set out to do so at 20 vs 45 but there are also a lot of important considerations, and it takes some serious planning to pull this off successfully. ✔️
So what is considered “normal” retirement age?
Historically, it has been age 65 based on when you could begin collecting your full social security benefits. However, this is gradually scaling up as people live longer. Currently “Full Retirement Age” is 66 and 2 months.
What if you want to retire sooner?
The date you stop working does not have to correspond with the date you take your social security benefits, however. You can delay collecting until much later in life.
This is important because collecting benefits early will cause a reduced amount and this reduction is permanent…meaning you will be giving up future income potential for the remainder of time. So, for those considering ‘early’ retirement, it pays to know your optimal time to take social security and have money available from other sources to bridge the gap.
In addition to the loss of a paycheck, retiring (at any age) usually means the loss of employer benefits. This typically includes health insurance and life insurance.
For health coverage, Medicare becomes available once you reach age 65, so if you are considering retirement before this age, you’ll want to plan for where you will get health insurance and how you will pay for it out of pocket until eligible for Medicare.
Let’s say you want to retire at age 50. You have 15 years before becoming Medicare eligible and you not only have to provide health insurance for yourself but possibly for your family. Maybe you can hop onto someone else’s plan, say a spouse who continues working or maybe you pick up part-time work, just enough to get health benefits. But if you and your spouse are wanting to retire together and set sail into the sunset, you’ll want to start planning early so you can work the additional health care costs into your budget.
And let’s not overlook life insurance.
Many employers offer group term coverage as long as you remain employed. Term insurance pays a death benefit to your heirs should you pass away and as the name states, it is usually in place for a stated term or period of time.
It’s great for those years when you’re working, have a mortgage, kids or other obligations relying on you for financial support. By the time you retire (at age 65+) your need for term insurance is less critical. Therefore, at “normal” retirement age it may be ok for you to lose that work coverage…but early retirement paints a different picture, let’s look at an example.
At age 50 you could still have 10 years left on your mortgage, a couple of kids in college (and still very much on your payroll!). Once you leave your employer you will lose that group insurance and should something happen to you; your mortgage, spouse and kids are all still dependent on financial support.
If early retirement is important to you, I would strongly suggest you consider independent life insurance coverage outside of work. And the earlier you get this in place, the better.
Now that we’ve covered the insurance side of things...
How do we deal with income replacement?
Many people take for granted the fact that they have a paycheck coming in every month, but once you retire no one will be sending you money (unless you are one of very few people these days who have a company pension).
So where will your new “income” come from? Social Security is one option, as we mentioned above, but it’s doubtful that alone will be enough. You must set aside money and create your own pot of income for the future. How much do you need? Well, there are many theories on this, but a good financial plan can help you figure out what makes sense for you and your specific situation. If early retirement is important to you, you’ll now need to save more in a shorter period of time AND you have less years where you are adding money and more years where you are depleting money. This has a compounding effect on your total outcome.
Even more so if you work for an employer who matches your retirement contributions. An early retirement means less years you can collect that free money (not to mention Health Savings Account (HSA) contributions you may receive from an employer, profit sharing contributions or other forms of compensation benefits provided to you on behalf of the company).
And wait, say you’ve done a great job setting aside money into retirement accounts, did you know you can’t actually access them until age 59 ½ without incurring a penalty?!
If you’ve already decided to retire earlier than 59 ½, you will need other sources of money to bridge the time between your early retirement and the age you can draw from true retirement-based vehicles.
👉 So, how do you bridge this income gap?
One method is to start saving into non-retirement accounts. Such as a taxable brokerage. The other is to utilize Roth IRA accounts…although the money here is still technically earmarked for retirement, you can withdraw the contributions at any time. The earnings, however, could be taxable. There are some provisions for being able to take distributions from your Roth to pay for health insurance expenses as well, but the rules get a little tricky. A financial and tax expert can help you in crafting this early retirement strategy.
I will close with this last thought around early retirement.
What do you plan to do with your life once you retire? Why is early retirement so enticing? 🤔
Is it that you are burnt out at your current job, or the allure of not being tied to a schedule has you dreaming of better things you could be doing with your life? Have you thought about what you are actually going to do to fill your days?
Studies show a significant decline in life span after retirement because people are motivated most when they have purpose. So, before you dive into the financial side of retiring early, I would figure out how you plan to fill those retired days and figure out to what extent these new hobbies, travels or interests will cost you.
Ready to talk about what is going on in your financial world and find out if we might be a good fit? Book your Right Fit Call with our team today!