17. Challenges of retiring early.

17. Challenges of retiring early.

Let's say you have saved $600,000 by age 55 and you are thinking about retiring early. Let's discuss the challenges of this approach.  

Savings Calculator - This should be your first step. Run your numbers through a couple of online retirement calculators to see if they think you can retire early. CNN/Money has a great one. AARP and Fidelity are good as well. Run them all and get a good concensus.

Health insurance - This is a biggie. If you can not wrangle your Health insurance, retiring early will be a huge challenge. You are not eligible for Medicare until age 65 (currently). So that leaves 9.5 years that you need to cover your own health coverage. Consider using a high deductible health plan paired with a tax differed HSA to get you through this period. If you are self employed you are already familiar with these challenges. Ironically it may be easier to pull the trigger and retire early if you are self employed.


Less Tax sheltering - If you stop working and have no earned income you can not participate in an Roth/IRA. The US government considers earned income as Wages, Salary, Tips, Union strike benefits, Long term disability, and Net earnings from self employment. This means your tax differed accounts must carry themselves with growth and dividends alone. Obviously you will no longer be able to participate in your 401k/403b once you retire. This means your only tax shelters left are tax exempt bonds and annuities. I hate annuities. They are an insurance product so they are not regulated by the SEC and have no guarantee either. If the insurance company goes out of business kiss your money goodbye! More on the evils of annuities in a future post.

4% withdraw rate - The rule of thumb for a withdraw rate retiring at age 65 is 4%. This should allow you to make it to age 100 without running out of money. If you retire early this percentage has to drop. If you can live on 2%-3% of your portfolio at age 55 then you might be a good candidate for early retirement.

Social Security - Currently you can start receiving (reduced) SS benefits at age 62. This will probably be increased to 63 or 64 very soon. If you want to make sure you get your full benefits you currently have to wait until age 65-66 depending on the year you were born. Can you live on only your money for 9.5 years?

You are not eligible to withdraw from your Roth/IRA - Until you hit age 59.5 you can not touch your Roth/IRA accounts. If you do you will be hit with ordinary income taxes plus a 10% penalty. That leaves you 4.5 years before you should take any money from your Roth/IRA accounts. You can start withdrawing from your 401k/403b at age 55. This is one of the only arguments for waiting to roll-over your 401/403b into your IRA. Can you live on your regular savings/brokerage and 401k/403b accounts for 4.5 years? 


The exception - Internal revenue code 72(t)(2)(a)(iv) - There is a way to start tapping your Roth/IRA before age 59.5. You must take "substantially equal periodic payments." To be honest this option gets me a little nervous. If I were to employ the 72t option I would use my accountant to help me through the details. I have included some sites that do a better job explaining 72t than I ever could.


http://www.retireearlyhomepage.com/wdraw59.html
http://www.section72.com/html/72_t_.html
http://www.irs.gov/pub/irs-drop/rr-02-62.pdf