Published on February 14th, 2022
This article is a syndication from SoFi, by MP Dunleavy.
An early retirement used to be considered a bit of a dream, but for many people it’s now a reality–especially those who are willing to budget, save, and invest with this goal in mind.
Take the FIRE movement, which stands for “financially independent, retire early.” FIRE has become a worldwide trend that’s inspiring people to work toward retiring in their 50s, 40s, and even their 30s.
If you think an early retirement could be your next priority–or maybe it already is–here are some steps you can take to help you get there, many of which are part of the FIRE method. Let’s start with The Number itself. How much would you need to save and invest to arrive at an amount that would allow you to retire early?
Early Retirement: What’s Your Number?
Many people wonder: How much do I need to retire early? There isn’t one right answer to that question. The right answer for you is one that you (and maybe your spouse, partner, or other loved ones) must arrive at based on your unique needs and circumstances. That said, to learn whether you’re on track for retirement it helps to start somewhere, and the so-called Rule of 25 provides a good ballpark estimate.
The Rule of 25 recommends saving 25 times your annual expenses in order to retire. Why? Because according to a well-known retirement formula in the industry, you should only spend 4% of your total nest egg every year. By limiting your spending to a small percentage of your savings, the logic goes, your money is more likely to last.
Here’s an example: if you spend (not earn, spend) $75,000 a year, you’ll need a nest egg of $1,875,000 in order to retire.
$75,000 x 25 = $1,875,000
With that amount saved, and assuming an annual withdrawal rate of 4%, you would have $75,000 per year in income.
Obviously, this is just an example. You might need less income in retirement or more — perhaps a lot less or a lot more, depending on your situation. If your desired income is $50,000, for example, you’d need to save $1,250,000. You can plug-and-play with different amounts.
Remember, once you reach the traditional retirement age of 62, you would then be able to claim Social Security. (Age 67 is considered “full retirement” age, and you can wait to claim benefits until age 70.) The longer you wait to claim Social Security, the higher your monthly payments will be. Depending on your needs, you could add those Social Security benefits to your income or consider reinvesting the money, depending on your circumstances as you get older.
The bigger question, then, is how do you save the amount of money you’d need for your early retirement plan?
8 Early Retirement Tips
Following are eight steps that can help you build a nest egg that’s substantial enough for you to consider an early retirement. Note that this article is focused on cash savings, as well as investments (including different types of retirement plans). We are not including the potential value of real estate or business assets here. Of course, the beauty of the Rule of 25 is that it’s flexible enough to include details that are particular to your plan.
Speaking of your plan …
1. Make an early retirement roadmap
The first step in your early retirement plan is to commit to this new path, and all that it will entail. An early retirement requires determination and, in many cases, making changes to how you think as well as some of your day-to-day habits. Divide your plan into two parts: Money and Vision.
- Start by doing the math, using the Rule of 25. Be brave. Based on your current nest egg, how much more would you need to save to get to your goal?
- Next: If you hypothetically needed to save $500,000 more to reach your goal, divide that by the number of years until your early retirement date. If you have 15 years until your early retirement, you’d have to save about $33,333 per year, or $2,777 per month, to save an extra $500,000.
- Use a calculator to explore different potential investment returns. While there’s no way to predict what your investments will earn over time, a conservative return rate of, say, 5% isn’t unreasonable considering that the average stock market return of the last decade was about 13.9%, although it’s always important to remember that past performance is no guarantee of future performance.
Also, that historic return rate assumes being invested 100% in stocks, so a lower rate of return would reflect the assumption that you’d also invest in bonds or cash, and/or that market returns might be lower in the future.
Schedule a few check-ins with yourself, and/or a partner or loved ones, to discuss what “early retirement” means, and what it might look like. Not working? Working a little? Working in a different field? Starting a business? Going back to school? Volunteering? Traveling?
It’s different for everyone, so the clearer you can get about the details now, the smarter you can be about how much money you need to make your plan work.
By now you’ve probably realized that having a budget you can live with is critical to making this plan a success. The essential word here isn’t budget, it’s the whole phrase: a budget you can live with.
There are countless ways to manage how you spend and save (a.k.a. budgets). There’s the 50-30-20 plan, the envelope method, the zero-based budget, etc. One suggestion: Search up what types of spending plans other people in the early retirement community are using.
Recommended: Typical Retirement Expenses to Prepare For
If your employer offers a retirement plan like a 401(k) or 403(b), that’s the first thing you want to take advantage of — especially if there is an employer match involved (e.g. your employer matches a percentage of your savings). These employer-sponsored plans allow you to invest in mutual funds, target date funds, and more.
The caveat here is that you can’t access those funds before you’re 59½ without paying a penalty. So if you plan to early retire at 50, you will need to tap other savings for roughly the first decade to avoid the withdrawal penalties you’d incur if you tapped your 401(k) or Individual Retirement Account (IRA) early.
If your employer offers a Health Savings Account as part of your employee benefits, you might consider opening one.
Even though your 401(k) and IRA may have contribution caps, a Health Savings Account allows you to save additional money: In 2022, the HSA contribution caps are $3,650 for individuals and $7,300 for those with family coverage.
Your contributions are considered pre-tax, similar to 401(k) or IRA contributions, and the money you withdraw for qualified medical expenses is tax free (although you’ll pay taxes on money spent on non-medical expenses).
If you already have the bulk of your savings in a 401(k), you might want to consider doing a Roth conversion for some of that money. Although you’d have to pay taxes on the money you rolled over into a Roth (because a Roth must be funded with after-tax dollars), this would enable you to withdraw those contributions penalty free.
Obviously, it’s very difficult to achieve a big goal like saving for an early retirement if you’re also trying to pay down debt. It’s wise to start your plan with a clean slate, and work first to pay off any and all debts you might have (credit card, student loan, personal loan, car loan, etc.).
That’s not only because being debt free feels better — it saves you money. For example, the interest rate you’re paying on credit card or store cards can be quite high, often above 10% or 15%. If you own $6,000 on a credit card at 17% interest, for example, when you pay that off, you’re essentially saving the 17% that debt was costing you each year.
How do you invest to retire early? You can invest in stocks, bonds, mutual funds, exchange-traded funds (ETFs), target date funds, and more.
One factor to consider is how aggressively you want to invest. That means: Are you ready to invest more in equities, say, taking on the potential for greater risk in order to reap potential gains? Or would you feel more at ease if you invested using a more conservative strategy, with less exposure to risk (but potentially less reward)?
The budget you make in order to save for an early retirement is probably a good blueprint for how you should think about your spending habits after you retire. Unless your expenses will drop significantly after you retire (e.g. if you move, if you need one car instead of two, etc.), you can expect your spending to be about the same.
That said, you may be spending on different things. You may be spending less on commuting and gas and work-related expenses and more on your new business or on travel. Whatever your retirement looks like, though, it’s wise to keep your spending as steady as you can, to keep your nest egg intact.
Additionally, the following Sure Dividend databases contain the most reliable dividend growers in our investment universe:
- The Dividend Contenders List: 10-24 consecutive years of dividend increases.
- The Dividend Challengers List: 5-9 consecutive years of dividend increases.
- The Dividend Champions: Dividend stocks with 25+ years of dividend increases, including those that may not qualify as Dividend Aristocrats.
- The Dividend Achievers: dividend stocks with 10+ years of consecutive dividend increases.
- The Dividend Kings: considered to be the ultimate dividend growth stocks, the Dividend Kings list is comprised of stocks with 50+ years of consecutive dividend increases
If you’re looking for stocks with unique dividend characteristics, consider the following Sure Dividend databases: