Exiting the rat race early is not impossible, but you need to plan carefully to make it happen. These tips will help you gather key resources.
Do you daydream about retiring as you plod through your 9-to-5 job? Are you wondering how a neighbor or relative managed to quit working at age 59 and go traveling?
For many people, retirement — never mind “early” retirement — seems out of reach. But with focus and self-discipline, you could amass enough money to retire earlier than you might think possible. Here are some tips to get you started:
1. Spend less than you earn
The formula for retiring early starts with actually saving money. Some experts recommend you spend no more than 90 percent of the money you make and sock away the remaining 10 percent.
2. Start saving early
Thanks to the power of compounding interest, a little money saved now can go a long way at retirement time. But to get the most benefit, start saving as early as possible.
Let’s say you’re 20 years old and can manage to put away only $100 a month into your retirement fund. Assuming you average 8 percent returns — optimistic, but possible with good investments — you’ll have about $500,000 by age 65. Even better, over that 45-year period, you’ll only have invested $54,000 of your money to get all that cash in return.
If you wait until you’re 40 to start saving $100 a month, you’ll put in $30,000 of your money and — at that same rate of return — build a nest egg worth about $95,000 by age 65. Not bad, but wouldn’t you rather have a half-million?
3. Don’t leave money on the table
If someone tried to hand you $100, would you say no?
That’s what you’re doing when you fail to take advantage of a 401(k) employer match. The company is basically giving you money, with the only hitch being that you must pony up some of your own cash for the retirement fund too.
You won’t get rich by passing up golden opportunities like this for extra cash. If your employer offers a 401(k) match, make sure you are taking full advantage of it.
4. Minimize your taxes
The rich stay wealthy in part because they’re savvy enough not to let Uncle Sam take too much of their money.
When you’re investing your retirement money, use tax-sheltered accounts such as IRAs and 401(k)s whenever possible. In addition, be smart about which type of tax-sheltered account you use.
Traditional retirement accounts enable you to invest pre-tax money and then pay the piper once you make withdrawals in retirement. Meanwhile, Roth accounts allow you to invest money after it’s taxed — and therefore not pay taxes on withdrawals.
For help determining whether a traditional or Roth account is better for you, check out “Confused by Retirement Accounts? Roth, Regular IRAs and 401(k)s Made Simple.”
5. Take a little risk
You could put all your money in bonds and sleep well at night knowing you’ll probably never lose any of it. But with that approach, you’re not going to retire a millionaire either.
Stocks and real estate are where the money is to be made. There is always the risk of the stock market or real estate market — or both — crashing. Take heart, though, in knowing that stocks and real estate have historically appreciated in the long run and offer higher returns than less-risky investments.
6. Stay informed about your investments
Don’t mistake taking a risk with being dumb.
A smart risk may be investing in an emerging-market fund. A dumb move may be pouring your life savings into a speculative currency.
How do you know the difference? By researching available investments, weighing your options and selecting the amount of risk that works for your situation. For example, those nearing retirement should minimize their level of risk, while recent college grads can be more daring because time is on their side.
7. Break free from the herd
When the stock market plummeted during the Great Recession, many people freaked out and sold their investments.
They took a bad situation and made it even worse. By selling their investments right when the market was bottoming out, they missed out on the stock market’s rebound.
Shrewd investors snatched up stocks at bargain-basement prices after the 2008 crash and then saw their stocks’ value climb by double digits in the following years. Same thing goes with the housing market. When the housing bubble burst, the smart people were the ones who were buying houses, not selling.
It’s easy to follow the herd. But if you want to be rich, you need to keep a cool head and make rational financial decisions, even in the midst of a crisis.
8. Put off Social Security
While it might seem counter intuitive, many people are better off waiting to file for Social Security benefits. While you can file as early as age 62, you’ll get a lot more money each month if you can wait until you’re 70.
As we explain in “Maximize Your Social Security,” you can influence your payout to a surprising degree by making such changes to your retirement plans.
9. Maximize your income potential
To retire early, maximize your earnings. That means no more settling for a dead-end job that pays pennies.
10. Marry/partner with the right person
Remember, love won’t pay the bills. Although it’s not unheard of for people to ask about credit scores on the first date, it might be considered a bit tacky.
However, talking about other goals and about money management can be fine fodder for those ongoing getting-to-know-you chats.
As the relationship heats up, discuss essential money matters frankly. And after you’re married, stay that way: Divorce costs a lot.
11. Don’t have kids too early
An unplanned pregnancy can take a major toll on your finances, and also on your emotional well-being. That is especially true if it turns out that the person you thought was Mr. or Ms. Right is the wrong fit.
The more organized your finances are, the more likely it is you’ll be able to cope with an unplanned pregnancy.
12. Consider a smaller family
“How many kids should we have?” is a good question to discuss before you get married. Remember, it isn’t just a question of whether you can feed and clothe more than one or two offspring. Family size can also affect:
- Your mortgage: A two-bedroom starter home won’t be large enough for your version of “The Brady Bunch.”
- Your car payment: You cannot tote five kids in a compact car.
- Your food and clothing bills: Hand-me-downs only take you so far.
13. Don’t keep up with the Joneses
Why should marketing experts determine how you live? Champagne tastes on a Kool-Aid budget will translate into debt that might keep you from ever retiring.
That’s especially true when it comes to cars. Maybe you want a sweet ride that leaves others in the dust — and makes them feel envious to boot. The higher cost of a luxury or sports car plus the higher cost of auto insurance for such a ride will siphon tens of thousands of dollars from your wallet.
14. Plan to base fixed expenses on Social Security benefits
Once you start collecting Social Security benefits, let them dictate your lifestyle.
Since Social Security could be your most reliable source of income in retirement, make sure all your fixed and essential expenses can be paid out of that monthly amount. That means your combined housing, transportation, utilities, food and insurance costs should be no more than your Social Security check.
If you have no debt, no mortgage and a paid-off car, paying all fixed expenses with Social Security should be doable.
15. Start planning now
One of the best ways to ensure you’ll have enough money in retirement is to start planning early.
Planning for retirement is about more than counting dollars; it’s also about visualizing the life you want to lead. To plan properly, you need to have a good idea of where you’d like to live and what activities you want to do. Calculate your life expectancy and your expected Social Security benefits as part of the planning process.
16. Account for your medical care costs
You generally can’t apply for Medicare until you reach age 65. So, if you want to retire before 65, you’ll need a health insurance coverage plan.
Once you are on Medicare, your health care costs might shrink, but they won’t disappear. So, consider stashing money in a health savings account.
17. Fatten your emergency fund
Ideally, retirees should have enough cash in emergency savings to cover expenses for at least six months — and they should keep it super safe in an FDIC-insured account. Some financial advisers also recommend keeping enough money to cover two to three years’ worth of expenses in cash or short-term investments, lest the next big stock market crash sneak up on you.
18. Pay off your debt
A generation ago, entering retirement with no debt was the goal. Today, mortgages are bigger and life is more complicated, if not more expensive.
It’s terrific to have all debt — mortgage included — erased before you retire. All your income, in that case, is available to support you. But there are different schools of thought on this today, as we detail in “Is It Ever OK to Carry Debt Into Retirement?”
If you cannot retire debt-free, at least eliminate credit card balances, auto loans and other debt that represents consumption.