My planned early retirement date is July 1, 2022. That seems like a long way off, but it is really less than 8 years away! Just typing that date gave me chills. Buckle up, this is a long post and as such will be in two parts.
The Early Retirement Plan
My retirement plan is really pretty simple. We need to get to about $1.1 million of savings in 8 years. We are currently about 25% of the way there. The plan is to save close to $60,000 next year and just over that much in 2016. The bulk of the contributions come from our 401k/403b contributions and company matches, there is also a good chunk from Roth IRA contributions. Each year thereafter the total amount saved each year should increase by about 1-2% from raises. I hope our portfolio increases about 7% on average as well (before inflation). A major market crash could extend me a year or two (so could a third child!).
If everything works out as planned, I will be able to achieve financial independence at age 45. That means I can start my early retirement, keep working, consult, volunteer, etc. The point is it becomes 100% my choice because I won’t need an income from working any longer to be able to pay the bills. Most likely I will drop down to a part-time status or do some consulting work, but my wife may or may not be working once I pull the plug. That part is really her choice. She may love her job at that point or be ready to move on as well.
I have planned on us still having earned income after my early retirement has started. I estimated about $20,000 for the first 5 years and about $15,000 for years 6-10. It could be from my wife working or me doing part-time or consulting work. I could work full-time longer, but why wait to delay retirement when we could work a few hours a month and be able to retire sooner? If we earn more initially, then we could dial back sooner. Part of having the money in the bank is the flexibility you have in making any decisions involving your personal finances.
I could go into the math and show how I reached my conclusion of 8 more years, but the main point is saving 45%+ of my take home income now and getting that up to a bit over 50% in that time frame provides the bulk of the money. It is easier to get to a high savings rate if your company has a high retirement plan match, but if you don’t have one it is still possible to save a very high percentage of your income. The main driver for early retirement is the savings rate, NOT the return from investments.
|Retirement Accounts 2015 Plan||% of Take Home Income|
|403b/401k/IRA, Company match, and defined pension contributions||~30%|
|Roth IRA maximum contributions x 2||~12%|
|Investment Account Deposits||~6%|
|Cash Savings increase||~2%|
|Total Savings Percentage||50%|
As you can see in the table above, most of the savings is coming from pre-tax vehicles as a match or coming out of our paychecks. The defined pension contribution is an account that I get an annual statement on its balance and is well diversified. The only downside (for me) is that I have no control over the investments. I am almost vested already, so upon retirement that balance can just be rolled over to a self-directed IRA account. Also, that part is not really from take home pay, so it has to be added in to the denominator for the calculation to make sense (all savings / (take home + pension contribution)).
The investment account deposits are split between Prosper and a regular trading account (stocks, mutual funds, and options). All of our retirement accounts and Coverdell ESA accounts are with Scottrade. I like the low fees that they offer. I do have an old Roth and a regular account with another lower fee online brokerage that I will probably keep separate as well.
75% of the additional funds I need to retire come from savings, the investment return portion is only 25%! That means I don’t have to search out risky strategies to try to increase my returns. I am better off trying to wean myself off of college sports and cancelling cable so I can save an extra $1,200 per year. Sure we could try to push the savings rate up even more to shave another year off, but at this point I am comfortable with the current plan as the timeline for financial independence.
For anyone that thinks they don’t make enough money, it how much you spend that matters, not how much you make. Here is an example to ponder:
A doctor making $300,000 a year that spends $290,000 of it could end up with less saved after a few years from a family that combined makes $60,000 a year from both spouses working because they lived off of $35,000. The doctor’s savings rate is 3.33%, the barely median income family’s is 41.67%. With no interest, that family would have $125,000 saved up in 5 years. The doctor would only have $50,000. The difference would be larger if you added in investment returns.
The savings rate is so powerful because it naturally means your expenses are much lower that your income. When a financial expert on television says “you need about 80% of your pre-retirement income” they are ignoring your expenses completely. If you were already naturally frugal and only spent about 60% of your income, why would that suddenly need to go up once you retire? I know my grandparents didn’t spend everything they made. That generation was much more in tune with wants versus needs and, therefore, naturally spent much less than they made.
Let me provide another example. If you save 50% of your income for an entire year you just saved 1 year worth of expenses. If you save 10%, it takes almost 10 years to save up 1 year of expenses (probably 1-2 years less with investment returns, but you see what I mean). The other huge benefit of increasing your savings rate is lower monthly expenses mean a smaller nest egg is needed to live off of in early retirement.
Roth IRA Conversions
Once we reach financial independence, we will also start converting over the IRAs to Roth IRAs. This will be a multi-year process once I have reached early retirement, but it is probably best to reference the Mad Fientist for this part of my plan. In short, if we keep our income low enough we can do tax free conversions each year by staying under the total of our deductions and exemptions. If we go over those amounts because of other income (if my wife is still working), then it would be in the 10% or 15% tax bracket. After that it would all be tax free growth. Even better our long-term capital gains and dividends would be taxed at 0% if we manage to stay in the 10% or 15% tax bracket during that time.
Part 2 will continue laying out my plan and discuss our expected budget in retirement, college expenses, and social security. Any questions so far?