I find it helps to visualize life without stuff or services. Pick one thing at a time. It does not matter if it is a necessity or superfluous. I like to go through this mental exercise to see where I can save money. What would life be like without cable TV? What would life be like without the house I am living in now? Without certain members of my family? Without pets? Without the car I drive? What if we were a one car family? Or a no car family? I know this seems a little gloomy but in the end you will think of savings that you would not have thought of in your current state of mind. Even if it is an incremental decrease in your spending, It all adds up. Collectively this will save you quite a bit of cash. Here is a list of things I have come up with to save more.
Trade in your smartphone for an ipod touch and a prepaid cell phone. This trick saves me $40-$50 a month. Dump your cable for watching shows online. Cut out those coffees at Starbucks and make your own. Pack a lunch. Stay away from the snack machines by having your own healthy snacks in your desk/bag. Try to buy used by going to garage sales, thrift stores, craigslist, the reuse center, and estate sales. Keep your car longer. Trade down to more basic transport. Or dump your car for bus and bike. Is your car worth enough to maintain full insurance coverage.
I would love to hear what you all do to be more frugal. Just leave a post in the comments section of my blog. which can be found at http://fettlersfinancial.blogspot.com/
Feel free to recommend this blog to your friends and family. Encourage them to read the first set of posts so they will have a firm foundation in personal finance. The more the merrier!
Monday, May 21, 2012
Wednesday, May 9, 2012
Rebalancing tips
So, I'm in the middle of a rebalance and thought of a couple things to share. I like to rebalance twice a year. Once in May and once in October. I find that there is calendar volatility related to summer. Maybe folks take there hands off the proverbial tiller for a summer vacation. I used to use my birthday but since it came in the summer I always seemed late to party when it came to the "protection" that rebalancing provides.
My online brokerage that services my Roth/IRAs has different monthly pricing structures. Ranging from [No monthly fee for $4 purchases & $9.95 sales. Or $12 monthly fee for 12-$1 purchases & $7.95 sales] I always chose the "Free" account except for the months that I rebalance. That saves me $80 a year!
I only purchase 1 investment per month when it comes to my monthly autopilot ROTH IRA savings. This keeps my normal monthly fee down to $4. I purchase my way towards balance by changing what that one investment is depending on my portfolios needs.
Remember to Rebalance across all of your accounts!
My online brokerage that services my Roth/IRAs has different monthly pricing structures. Ranging from [No monthly fee for $4 purchases & $9.95 sales. Or $12 monthly fee for 12-$1 purchases & $7.95 sales] I always chose the "Free" account except for the months that I rebalance. That saves me $80 a year!
I only purchase 1 investment per month when it comes to my monthly autopilot ROTH IRA savings. This keeps my normal monthly fee down to $4. I purchase my way towards balance by changing what that one investment is depending on my portfolios needs.
Remember to Rebalance across all of your accounts!
Saturday, May 5, 2012
22. When to pay for professional help.
22. When to pay for professional help.
This can be a tricky decision. You may always feel that you need professional help. If you understood most of "Anyone's financial plan" you can manage your own portfolio. Where that breaks down for me is during retirement. Later in life I might not have the mental capacity, logic skills, or brain power to manage my portfolio. I will probably enlist a Certified Financial Planner (They must be certified!) to maintain my Bond/CD ladders and implement my retirement plan. I'll handle it for 5-10 years and then hand it over to the CFP Probably around age 70. There will be a lot of vetting and I will be very involved until I physically can not attend meetings.
Since I will probably be paying 1% of my portfolio for this service, the later in life I start using a CFP the cheaper it will be. I want that 1% to compound and grow for as long as possible. Don't wait too long though. You may lose the capacity to communicate your plan or develop a relationship with your CFP.
There are different types of CFPs.
http://www.napfa.org/
http://www.finra.org/Investors/ToolsCalculators/BrokerCheck/
http://www.cfp.net/
http://www.nasaa.org/
http://www.naic.org/
http://www.sec.gov/
The WSJ had a great article on picking a CFP.
http://guides.wsj.com/personal-finance/managing-your-money/how-to-choose-a-financial-planner/
That's it for my "Anyone's financial plan" series. I hope you found the information useful and easily digested. Refer back to the series as needed and refer your friends and relatives to the blog. Insist they start from the beginning. From here on my blog will be more topical and probably have shorter posts more often. I have been stock piling ideas for posts but have had to hold off until the foundation of financial planning was done. I felt that until we had that foundation in place, my posts would have no context.
Source
http://www.getrichslowly.org/blog/2007/04/24/when-and-how-do-you-hire-a-financial-planner/
This can be a tricky decision. You may always feel that you need professional help. If you understood most of "Anyone's financial plan" you can manage your own portfolio. Where that breaks down for me is during retirement. Later in life I might not have the mental capacity, logic skills, or brain power to manage my portfolio. I will probably enlist a Certified Financial Planner (They must be certified!) to maintain my Bond/CD ladders and implement my retirement plan. I'll handle it for 5-10 years and then hand it over to the CFP Probably around age 70. There will be a lot of vetting and I will be very involved until I physically can not attend meetings.
Since I will probably be paying 1% of my portfolio for this service, the later in life I start using a CFP the cheaper it will be. I want that 1% to compound and grow for as long as possible. Don't wait too long though. You may lose the capacity to communicate your plan or develop a relationship with your CFP.
There are different types of CFPs.
- Fee only CFP - paid by the hour. Good for a check up but may not fit the bill for long term management.
- CFP on retainer - Good for ongoing help.
- CFP that takes a regular percentage of your portfolio. Sometimes these folks have a conflict of interest. The more money they make you (and expose you to risk) the more he or she makes.
http://www.napfa.org/
http://www.finra.org/Investors/ToolsCalculators/BrokerCheck/
http://www.cfp.net/
http://www.nasaa.org/
http://www.naic.org/
http://www.sec.gov/
The WSJ had a great article on picking a CFP.
http://guides.wsj.com/personal-finance/managing-your-money/how-to-choose-a-financial-planner/
That's it for my "Anyone's financial plan" series. I hope you found the information useful and easily digested. Refer back to the series as needed and refer your friends and relatives to the blog. Insist they start from the beginning. From here on my blog will be more topical and probably have shorter posts more often. I have been stock piling ideas for posts but have had to hold off until the foundation of financial planning was done. I felt that until we had that foundation in place, my posts would have no context.
Source
http://www.getrichslowly.org/blog/2007/04/24/when-and-how-do-you-hire-a-financial-planner/
Thursday, May 3, 2012
21. Mandatory distributions at age 70.5
21. Mandatory distributions at age 70.5
With a traditional IRA or ANY type of 401k/403b you must take "Required minimum distributions"or RMDs annually. You have until April 1 of the year that follows the year you turn 70.5 to start taking RMDs. If you do not take your RMD you will pay a 50% penalty. That's losing half of your RMD to the IRS. DON'T DO IT! To calculate your own RMD the following link and find the section labeled "How is the amount of the RMD calculated?"
The money you have saved in your Roth IRA is exempt from this rule. This is where Roth IRAs really shine. The money in your Roth IRA can grow tax differed your whole life. This helps make your portfolio last longer and hopefully leaving more money to your heirs. If you have a Roth 401k/403b you should roll it into a Roth IRA before you hit 70.5. This will shelter that portion from RMDs.
There is one way to keep your RMD from pushing you into a higher tax bracket. You can have your RMD transferred directly to a charity. This then becomes a tax deduction negating your extra income. If you are still working you do not have to take an RMD from your 401k/403b. You will still have to take RMDs from a traditional IRA while still working. You do not have to spend it though. You can just reinvest the money in a taxable account.
From the IRS website-
When a retirement plan account owner or IRA owner dies before RMDs have begun, different RMD rules apply to the beneficiary of the account or IRA. Generally, the entire amount of the owner’s benefit must be distributed to the beneficiary who is an individual either (1) within 5 years of the owner’s death, or (2) over the life of the beneficiary starting no later than one year following the owner’s death.
Sources
http://www.bankrate.com/brm/itax/tips/20030325a1.asp
http://www.irs.gov/retirement/article/0,,id=96989,00.html
With a traditional IRA or ANY type of 401k/403b you must take "Required minimum distributions"or RMDs annually. You have until April 1 of the year that follows the year you turn 70.5 to start taking RMDs. If you do not take your RMD you will pay a 50% penalty. That's losing half of your RMD to the IRS. DON'T DO IT! To calculate your own RMD the following link and find the section labeled "How is the amount of the RMD calculated?"
The money you have saved in your Roth IRA is exempt from this rule. This is where Roth IRAs really shine. The money in your Roth IRA can grow tax differed your whole life. This helps make your portfolio last longer and hopefully leaving more money to your heirs. If you have a Roth 401k/403b you should roll it into a Roth IRA before you hit 70.5. This will shelter that portion from RMDs.
There is one way to keep your RMD from pushing you into a higher tax bracket. You can have your RMD transferred directly to a charity. This then becomes a tax deduction negating your extra income. If you are still working you do not have to take an RMD from your 401k/403b. You will still have to take RMDs from a traditional IRA while still working. You do not have to spend it though. You can just reinvest the money in a taxable account.
From the IRS website-
When a retirement plan account owner or IRA owner dies before RMDs have begun, different RMD rules apply to the beneficiary of the account or IRA. Generally, the entire amount of the owner’s benefit must be distributed to the beneficiary who is an individual either (1) within 5 years of the owner’s death, or (2) over the life of the beneficiary starting no later than one year following the owner’s death.
Sources
http://www.bankrate.com/brm/itax/tips/20030325a1.asp
http://www.irs.gov/retirement/article/0,,id=96989,00.html
Sunday, April 29, 2012
19/20. Converting your nest egg into income.
19/20. Converting your nest egg into income./4% withdraw rate.
So you have spent most of your working life (Hopefully) accumulating retirement savings. Now you need to turn this nest egg into a stream of income. You will need a budget (See post # 3 make a budget) so you can determine how much income you will need in retirement. You will also need to know how much you will receive monthly in Social Security and Pension income. Subtract the SSI and Pension total from your budget and that is your goal minimum. Ideally you would be able to meet that goal with an interest stream coming from your portfolio. I will discuss how to do this below. You may also have to withdraw some of the principle in your portfolio if you can not meet your monthly goal from SSI, pension, and investment interest alone.
The conventional wisdom says you should not withdraw more than 4% of your portfolio a year. 4% plus an annual adjustment for inflation should allow you to retire at a ripe old age and not run out of money. In my opinion 3% is a safer rate and it allows you some leeway if medical bills or emergency home repairs rear their ugly heads.
To maintain tax efficiency you want to tap your taxable accounts first.
This allows the tax sheltered accounts to grow unfettered. Next you should tap your traditional IRA/401k so your Roth has a greater chance for tax free growth. If you are retiring early keep in mind that 401k/403b's can be tapped at age 55 and Roth/IRA's at age 59.5. This is one of the only reasons not to consolidate your accounts to Roth/IRAs to get lower fees. If you are danger of being bumped into a higher tax bracket you may want to tap your Roth IRA to keep your income below that bracket.
Let's get into making adjustments so you can start living on your retirement portfolio.
Bond ladders - A bond ladder is a collection of bonds that mature at a regular pace. To make a ladder divide your money by 5 and put the first 5th in a bond that matures in 5 years . The second 5th in a 4 year bond. The third 5th in a 3 year and so on. When the 1 year bond comes due put that money in a new 5 year bond. When the 2 year bond comes due put that money in a new 5 year bond and so on. After 5 years of this you will have five 5 year bonds. This is a bit of an oversimplification. You will most likely buy a basket of bonds. You can also spread the ladder over ten years if the yields work out better. The interest from this ladder should dump into another account such as a checking or money market account.
CD ladders - You can apply the same laddering technique to CD's. A CD ladder would be a little safer. So I might mix the two types to manage risk.
Annuities - There are so many types of annuities out there. Most of them are way too expensive and are a bad fit for 99% of investors. That said there may be room in your portfolio for an Immediate Annuity. Basically you give an insurer a lump sum and they pay you a monthly income for life. The fees from annuities can range from 1.5-6% which breaks my 1% rule. Plus annuities are insurance products so they are not currently regulated. So you will probably never know how much you are actually paying. If the insurer goes out of business you will loose your monthly check and the lump sum you already parted with. Too many downsides for me.
You will want to change your reinvestment settings. When you are working you should have any dividends reinvested into the same stock, ETF, or mutual fund to help compound your growth. In retirement you can redirect this dividend stream to another account such as a checking or money market account. The key is liquidity or immediate access.
To wrap this up, your income in retirement will come from the following sources.
In that order. If you do not need to tap #3 or #4a-c you will be able to retire comfortably and pass on your nest egg! But if you do you tap all of the above you still have very good chance of retiring comfortably.
Sources
http://www.investopedia.com/terms/f/four-percent-rule.asp#axzz1sp3P7gff
www.ssa.gov
So you have spent most of your working life (Hopefully) accumulating retirement savings. Now you need to turn this nest egg into a stream of income. You will need a budget (See post # 3 make a budget) so you can determine how much income you will need in retirement. You will also need to know how much you will receive monthly in Social Security and Pension income. Subtract the SSI and Pension total from your budget and that is your goal minimum. Ideally you would be able to meet that goal with an interest stream coming from your portfolio. I will discuss how to do this below. You may also have to withdraw some of the principle in your portfolio if you can not meet your monthly goal from SSI, pension, and investment interest alone.
The conventional wisdom says you should not withdraw more than 4% of your portfolio a year. 4% plus an annual adjustment for inflation should allow you to retire at a ripe old age and not run out of money. In my opinion 3% is a safer rate and it allows you some leeway if medical bills or emergency home repairs rear their ugly heads.
To maintain tax efficiency you want to tap your taxable accounts first.
This allows the tax sheltered accounts to grow unfettered. Next you should tap your traditional IRA/401k so your Roth has a greater chance for tax free growth. If you are retiring early keep in mind that 401k/403b's can be tapped at age 55 and Roth/IRA's at age 59.5. This is one of the only reasons not to consolidate your accounts to Roth/IRAs to get lower fees. If you are danger of being bumped into a higher tax bracket you may want to tap your Roth IRA to keep your income below that bracket.
Let's get into making adjustments so you can start living on your retirement portfolio.
Bond ladders - A bond ladder is a collection of bonds that mature at a regular pace. To make a ladder divide your money by 5 and put the first 5th in a bond that matures in 5 years . The second 5th in a 4 year bond. The third 5th in a 3 year and so on. When the 1 year bond comes due put that money in a new 5 year bond. When the 2 year bond comes due put that money in a new 5 year bond and so on. After 5 years of this you will have five 5 year bonds. This is a bit of an oversimplification. You will most likely buy a basket of bonds. You can also spread the ladder over ten years if the yields work out better. The interest from this ladder should dump into another account such as a checking or money market account.
CD ladders - You can apply the same laddering technique to CD's. A CD ladder would be a little safer. So I might mix the two types to manage risk.
Annuities - There are so many types of annuities out there. Most of them are way too expensive and are a bad fit for 99% of investors. That said there may be room in your portfolio for an Immediate Annuity. Basically you give an insurer a lump sum and they pay you a monthly income for life. The fees from annuities can range from 1.5-6% which breaks my 1% rule. Plus annuities are insurance products so they are not currently regulated. So you will probably never know how much you are actually paying. If the insurer goes out of business you will loose your monthly check and the lump sum you already parted with. Too many downsides for me.
You will want to change your reinvestment settings. When you are working you should have any dividends reinvested into the same stock, ETF, or mutual fund to help compound your growth. In retirement you can redirect this dividend stream to another account such as a checking or money market account. The key is liquidity or immediate access.
To wrap this up, your income in retirement will come from the following sources.
- Social Security
- Pensions
- Interest stream from investments and ladders
- 3% of your total portfolio
b. Traditional IRA/401k/403b
c. Roth IRA/401k/403b
In that order. If you do not need to tap #3 or #4a-c you will be able to retire comfortably and pass on your nest egg! But if you do you tap all of the above you still have very good chance of retiring comfortably.
Sources
http://www.investopedia.com/terms/f/four-percent-rule.asp#axzz1sp3P7gff
www.ssa.gov
Saturday, April 14, 2012
18. When to take Social security.
18. When to take Social security.
You basically have three choices. Take it early. Take it at "full retirement age". Wait until you're 70. The general rule is to wait as long as possible. That way you get the largest total benefit over the coarse of your life. But if you have a hard time making your bills without the benefits, Are in poor health, or you are the lower earning spouse and your spouse can wait for a higher benefit. Then you are a good candidate for early benefits. You should probably wait if you are still working, In good health with longevity running in your family, Or are the higher earning spouse and want to leave the largest possible benefit for your spouse. Here is a chart showing who is eligible when.
The earliest you can start receiving Social Security retirement benefits is age 62. If you start your retirement benefits at age 62, your monthly benefit amount is reduced by about 30 percent.
This chart helps you visualize the different retirement age scenarios,
^
The different types of Social Security claims are
62/70 split - There are ways to maximize your benefits as a married couple. Here is one example. Let's say that a retired couple are both 62 and only the man worked enough to qualify for SSA personal benefits. They both apply for benefits but then the husband suspends his payments. This allows for a larger check for him the longer he waits. This also qualifies his wife for up to a 50% Spousal benefit since he is now in the system. She gets the largest possible benefit she could get and by waiting until 70 he gets the his largest total benefit possible. If the man waits to apply for SSA benefits until 70 his wife can not receive benefits until then due to her lack of a work record.
It's little known that your medicare premiums part B&D and taxes are withheld from your gross amount. So the amount you see on your SSA statement might not be what you actually get. If you take your benefits early thinking that you can make it on the reduced amount you may be in for a big surprise at age 65 when Medicare kicks in.
When you take your SSI benefits you have a year to change your mind. You will need to repay all of your benefits to reset your benefit calculations. You can only change your mind once though. Another option is to just suspend your benefits. Your payment amount will grow as long as you wait.
Sources
* http://ssa.gov
^ http://www.schwab.com/public/schwab/resource_center/expert_insight/retirement_strategies/planning/when_should_you_take_social_security.html
http://www.cbsnews.com/8301-505146_162-51396960/when-to-take-social-security-benefits/
You basically have three choices. Take it early. Take it at "full retirement age". Wait until you're 70. The general rule is to wait as long as possible. That way you get the largest total benefit over the coarse of your life. But if you have a hard time making your bills without the benefits, Are in poor health, or you are the lower earning spouse and your spouse can wait for a higher benefit. Then you are a good candidate for early benefits. You should probably wait if you are still working, In good health with longevity running in your family, Or are the higher earning spouse and want to leave the largest possible benefit for your spouse. Here is a chart showing who is eligible when.
| If you were born in ... | Your full retirement age is ... |
| 1937 or earlier | 65 |
| 1938 | 65 and 2 months |
| 1939 | 65 and 4 months |
| 1940 | 65 and 6 months |
| 1941 | 65 and 8 months |
| 1942 | 65 and 10 months |
| 1943-1954 | 66 |
| 1955 | 66 and 2 months |
| 1956 | 66 and 4 months |
| 1957 | 66 and 6 months |
| 1958 | 66 and 8 months |
| 1959 | 66 and 10 months |
| 1960 or later | 67 |
The earliest you can start receiving Social Security retirement benefits is age 62. If you start your retirement benefits at age 62, your monthly benefit amount is reduced by about 30 percent.
- 63 is about 25 percent;
- 64 is about 20 percent;
- 65 is about 13.3 percent; and
- 66 is about 6.7 percent.
| Year of Birth* | Monthly Rate of Increase | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| 1933-1934 | 5.5% | ||||||||||
| 1935-1936 | 6.0% | 1/2 of 1% | |||||||||
| 1937-1938 | 6.5% | 13/24 of 1% | |||||||||
| 1939-1940 | 7.0% | 7/12 of 1% | |||||||||
| 1941-1942 | 7.5% | 5/8 of 1% | |||||||||
| 1943 or later | 8.0% | 2/3 of 1% | |||||||||
| Note: If you were born on January 1st, you should refer to the rate of increase for the previous year. * | |||||||||||
This chart helps you visualize the different retirement age scenarios,
^
The different types of Social Security claims are
- Personal benefits are when you receive SSI benefits based on your work record.
- Spousal benefits are when your receive benefits up to 50% of your Spouses work record. If both spouses are enrolled in the SSA system you can take either your benefit or up to 50% of your spouses benefit. Whichever is greater. Taking a Spousal benefit does not affect what the higher earning Spouse will receive under their own Personal benefit. Divorce complicates things some. Under certain conditions you can apply for 50% of an Ex-Spouses benefits. Please check with http://ssa.gov for more info.
- Disability benefits can be applied for anytime you become disabled for longer than 12 months and can no longer work. You must be "insured" meaning that you have worked and contributed to your SSI for a certain minimum amount of time. These are on a case by case basis so again I need to refer you to http://ssa.gov for more info.
- Death benefit - A surviving widow or widower may be eligible to receive a special death benefit payment of $255.00 on the worker's record. This payment can be made only once to a spouse or minor children who meet certain requirements.
- Survivor benefits is most commonly when you receive your deceased spouses benefits because it is larger than yours. Again, So many options and permutations. Please visit http://ssa.gov for more info.
62/70 split - There are ways to maximize your benefits as a married couple. Here is one example. Let's say that a retired couple are both 62 and only the man worked enough to qualify for SSA personal benefits. They both apply for benefits but then the husband suspends his payments. This allows for a larger check for him the longer he waits. This also qualifies his wife for up to a 50% Spousal benefit since he is now in the system. She gets the largest possible benefit she could get and by waiting until 70 he gets the his largest total benefit possible. If the man waits to apply for SSA benefits until 70 his wife can not receive benefits until then due to her lack of a work record.
It's little known that your medicare premiums part B&D and taxes are withheld from your gross amount. So the amount you see on your SSA statement might not be what you actually get. If you take your benefits early thinking that you can make it on the reduced amount you may be in for a big surprise at age 65 when Medicare kicks in.
When you take your SSI benefits you have a year to change your mind. You will need to repay all of your benefits to reset your benefit calculations. You can only change your mind once though. Another option is to just suspend your benefits. Your payment amount will grow as long as you wait.
Sources
* http://ssa.gov
^ http://www.schwab.com/public/schwab/resource_center/expert_insight/retirement_strategies/planning/when_should_you_take_social_security.html
http://www.cbsnews.com/8301-505146_162-51396960/when-to-take-social-security-benefits/
Thursday, March 22, 2012
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
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
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