Countless retirement calculators are available to help you understand when you might be able to retire. Although these are good tools to get a general sense of the possibilities, there are still many things you can do to make it happen earlier than you may have thought possible.
While there isn’t a perfect mathematical formula to tell you exactly how much money you need to retire, there is a near perfect list of ingredients to make it happen: pay off debt, build savings, draft/test your retirement budget and have a contingency plan. I realize I have basically summarized decades of work. But, don’t be discouraged if you haven’t made these ingredients for retirement a priority in your life. It’s never too late. Start now.
If you think you can retire early but aren’t 100% certain, you’ll need a contingency plan such as planning to return to work later. It’s really not a bad idea. If you are concerned that you will run out of money, consider the dreadful alternative: running out of life! If you feel you are missing the best years of your life or don’t like that your children will be all grown up and living far away by the time you actually retire, you should consider delaying work and have a near-term retirement.
Many have the means to do this, but don’t even consider it. Just because it’s not a societal norm doesn’t mean you can’t do it! For others who don’t have the dough to do this, part-time work in the near-term is another option – which I did for a couple of years with my focus on paying off our mortgage.
Paying off debt is the single most important thing you can do if you want to retire early. You need to lower your monthly expenses down to the minimum, which cannot be done if you have debt. To pay off debt you must first learn to save. Is your house full of things you don’t use? Think about that the next time you want to buy something.
The first step in paying off debt is making a commitment to saving a portion of your income on a regular, recurring basis. I recommend you start with 10% of your monthly income. Divert 10% or more of your earnings directly to a savings account, rather than your checking account. You will spend what you have. If you have the willpower to “hide” funds in an off-limits saving account, you won’t be tempted to foolishly use those funds. This is a change in mindset. Your focus will be on saving rather than spending. Continue your new way of thinking and when you get a raise, bonus, or tax refund, put that money directly into the savings account as well.
The money you accumulate into your savings account should first be used to pay off all your debt: credit cards, student loans, mortgages, etc. Start with debt that has a higher interest rate and move on to clearing the next bit of debt. Picking them off one at a time. Bang! Bang! This might take a very long time. But it must be your primary focus if you want to retire early. If you “own” a home, your mortgage is likely your largest piece of debt. Paying hundreds, or better thousands, of extra dollars each month is the key. Those extra funds go 100% to your principal, not the bank.
Now, not all of your savings should go to paying off debt. If you work for a company that matches retirement savings, you must max out on this. It’s free money! If your debt is at an interest rate lower than the average annualized total return of the S&P 500 index over the past 90 years (9.8%), then, if your income allows, you should also max out your yearly allowable investment into Roth IRAs (invested in an S&P index fund) before paying down those pieces of debt. This is smart simply because all the capital gains on Roth IRAs are tax free and you can use the principal later to pay for your children’s college, if needed. You also need to reserve a portion of your savings for emergencies – I recommend at least 50% of your yearly expenses for this.
Understanding and reducing your monthly expenses so that you can live on a budget is essential to an early retirement. The Consumer Expenditure Survey found in 2017 that the average annual expenditure was $62,700 for those in the 30 to 50 year-old range, $59,200 for those 50 to 65, and $49,500 for those 65 and older. Most people do not retire until 65, but if you plan to retire earlier than you should at least target this sub-$50K amount as your annual budget to ensure you are living within the means of a retiree. You can test out your retirement budget while you are getting rid of debt. Let’s take a look at the expenses you’ll need to include in your budget.
If you have kids in college, or planning to go to college, you will need to have significant savings earmarked for this large expenditure. If you don’t anticipate having much of any college savings and financial aid isn’t going to take care of it all, then you might consider working toward the goal of retiring after your kids graduate from college…or sometime just after they start college.
Likely one of your largest expenses you’ll have in retirement is health insurance and/or care. When choosing a health plan: in general, if your medical expenses are low, a Bronze plan (lower premium / higher deductible) may be the best value, while if your expenses are higher, a Silver plan (higher premium / lower deductible) could be more favorable.
Property taxes may be a large part of your expenses. However, your federal taxes in retirement are actually a lot lower than you might think. Assuming you are living on $4K per month, your effective federal tax rate should be less than 5% after standard deductions and other deductions / credits. Your rate would be even less, assuming you are getting some amount of your retirement funds from savings – you may only be paying taxes on capital gains, other sources of passive income or part-time work. Test it out: Can you can live on your retirement budget while still working for a year or two? Then if you have enough savings, try taking a mini-retirement to really test it!
Other expenses can be reduced by cutting the cord with expensive TV providers, using a whole house fan to reduce electricity bills, planning your meals to help with food costs, reduce your water bill with a weather smart irrigation system or using a more fuel efficient car. It also pays to shop around for the best deals in the highly competitive markets of insurance, cellular, and internet services.
You may be saying…OK, this is all good, but what do I do in the meantime?…I want to work less NOW. To do that, we need to examine Parkinson’s Law which says that “work expands so as to fill the time available for its completion.” The perception of a lack of time is actually a lack of priorities. Having more leisure time is possible. In my next blog, I will discuss what you can do to work less in your current situation and still get paid the same.