Retiring early was rarely talked about a few decades ago, yet the FIRE movement is all the rage these days. After all, those who pursue this early retirement strategy, which stands for “financial independence, retire early” like to blog about it and sell affiliate products to their readers.
I’m sure you have seen articles from at least a few early retirement gurus like Jacob from Early Retirement Extreme or Tanja Hester from Our Next Life. Yet, we all know not everyone is interested in retiring early like some of them do — never having kids, eating mostly rice and beans and living on a minimal income.
The cool thing about early retirement is that you don’t have to do anything drastic. Actually, quite a few early retirement enthusiasts take a more balanced approach to reach their goals. They work a little longer, try to earn a little more money and then get to retire early (or at least somewhat early) without having to live on a restricted income.
If you want to retire early, you’ll need to take the same steps whether you plan to live in a van down by the river or a luxury highrise. Here’s exactly what you need to do to retire early and live the life of your dreams:
- Step 1: Decide on the type of lifestyle you want
- Step 2: Determine your “retirement number”
- Step 3: Create a savings goal
- Step 4: Cut your expenses
- Step 5: Maximize investing opportunities
- Step 6: Pay down debt
- Step 7: Create a plan for how you’ll live on your savings
Step 1: Decide on the type of lifestyle you want
The first step in planning for early retirement is figuring out how you want to live later on, once you’re done earning an income. One good rule of thumb for planning for this step is figuring out how much you spend on a monthly basis right now, as well as what your expenses might look like when you retire.
For example, imagine you’re spending an average of $10,000 per month right now while you’re still working, but that figure includes a mortgage you hope to have paid off in retirement, as well as some creature comfort “extras” you don’t really need. In that case, you may be able to live a similar lifestyle to how you live now on a much lower amount.
Maybe you are entirely ready to live in a tiny home on a very limited budget. That’s perfectly fine as well, and it will make reaching early retirement that much faster.
Step 2: Determine your “retirement number”
While it’s hard to know exactly how much you’ll need to retire the way you want, most people use some general rules to figure out a “retirement number” to shoot for. One popular guideline is striving to save up 25x your expenses (not your income) before you can retire early. This would allow you to make withdrawals based loosely on the 4% rule, which should theoretically help your assets last through decades of retirement without running out.
To see how this might work in practice, imagine you want $100,000 per year in income in retirement. In that case, you would save up 25x that amount — or $2.5 million. With this level of investments, it is generally believed you can withdraw 4% per year while investment returns help your money last. Just remember that this is a guideline and not a hard and fast rule.
Step 3: Create a savings goal
Next up, you need to plan to reach your retirement number. For example, how much do you need to invest each month?
To determine an estimate of how much you need to save based on average investment returns, this compound interest calculator from Investor.gov is an excellent tool. To use it, you’ll enter how much you have invested now, how much you plan to invest each month, the average returns you might receive, and your timeline.
Step 4: Cut your expenses
Cutting your expenses can help you retire early in more than one way. First, cutting expenses leaves you with more expendable income now you can use to invest. Second, lowering your expenses could also mean you don’t have to save quite as much to reach your “retirement number.”
If you can learn to live below your means, retiring earlier than the average person is not that hard. Look for important areas to make an impact like driving paid-off cars as long as you can, paying off high-interest loans and credit cards, and cutting unnecessary splurges for “stuff” you may not really care about. You can also cut unnecessary subscriptions, give up cable television and try to cook more meals at home vs. relying on restaurants and takeout.
With a few tweaks to your spending, you could begin saving more than you thought you ever could.
Step 5: Maximize investing opportunities
If you want to retire early, maximizing your tax-advantaged retirement account is crucial. This is true whether you have a workplace 401(k), a Solo 401(k), a SEP IRA, or any other plan that lets you deduct contributions on your taxes.
In the meantime, many early retirement enthusiasts try to max out a Roth IRA as well. This type of account lets you contribute after-tax dollars that grow tax-free over time. In retirement, you can also enjoy this money on a tax-free basis. The Roth IRA even lets users withdraw contributions (not earnings) before age 59 ½ without penalty, which is another reason it’s popular among early retirees.
Finally, make sure you’re actively investing any extra cash you have. You can do this through a brokerage account with a firm like Fidelity or Vanguard, and it’s a lot easier than you might think.
The good news about having cash in a brokerage account is the fact that you can sell shares and access your retirement funds before retirement age without a penalty. Just remember that you’ll pay capital gains taxes when you do.
Step 6: Pay down all your debt
Paying off high-interest credit card debt and other loans can be smart early on in your journey to early retirement. After all, money spent on interest payments is money you’re not saving for retirement, and credit cards especially can charge exorbitant interest rates.
After all your unsecured debt is paid off, you’ll still want to focus on paying off other debts you have like your mortgage and car loans. By getting rid of these loan payments, you can lower the amount of money you’ll need to cover your living expenses in early retirement and beyond.
Step 7: Create a plan for how you’ll live on your savings
Once you have a plan in place to reach your “retirement number,” you mostly just have to execute on that plan. For the most part, that means earning more, investing all your excess money, avoiding the trappings of lifestyle inflation, and staying the course.
You’ll also need to have an idea of how you’ll draw down your money in retirement, and especially if most of your retirement funds are in tax-advantaged accounts that don’t let you take distributions until the age of 59 ½.
If you have liquid savings or another type of investment income to live on, you may be in good shape. Also note that some early retirees step away from full-time work but pick up a side gig to cover their living expenses in early retirement.
However, there are plenty of more complex early retirement strategies that make it easier to access money when you need it, although the best options depend on your unique circumstances.
What steps should you take to reach early retirement?
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