Early retirement sounds awesome, but how do you pay the bills? Many financial planners recommend saving 10% to 15% of your income for retirement. That standard plan should enable you to comfortably retire in your 60s, but it will be practically impossible to retire early. You will have to think outside of the box if you want to quit your professional career earlier.
There are many ways to fund early retirement, but the truth is you’ll have to figure out your own special formula. There are the basics, of course. Here are 7 ways to achieve financial independence and anyone can follow one or more of these paths to early retirement. I think the most important point is to figure out what early retirement means for you. For me, early retirement means quitting my engineering career and becoming a stay-at-home-dad/blogger. I’m still working part time on my blog which earns a little income every year. It is motivating to work a few hours every day on something I enjoy. Some people don’t think that’s retirement and they are entitled to their opinion. I love my life and I call it early retirement.
Why work part-time?
There are many reasons to work part time. The biggest reason is that working on something you like is good for you. It gives you a reason to get out of bed and it will keep boredom at bay. Boredom is a huge problem for many retirees. They quit working and they feel disconnected because they don’t have any long term goals.
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Working part-time is also a great way to help fund your early retirement. I retired in 2012 when our net worth was nearly 30x our annual expenses. However, I didn’t want to start drawing down our retirement fund yet. We will most likely be fine financially if we withdraw 4% of our net worth, but I could be retired for 40 to 50 years. That’s a very long time and a lot of things can happen. It is safer to put off withdrawal as long as possible. This is the brief summary of my original plan.
- Age 20-40: Work full-time and save as much as we could.
- Age 40-60: Work part-time and avoid withdrawing from our retirement accounts.
- Age 60-??: Start drawing down our retirement accounts.
The beauty of this plan is that we saved and invested early in life so we could take full advantage of compounding. (Compound interest) Once we saved a good amount, we could transition to part-time work and stop saving. The key here is to leave the retirement accounts alone and let them grow until we’re 60. This is much safer than starting withdrawal in our 40s.
How we’ll fund our early retirement
Okay, so the plan is to work part-time on something we enjoy. However, is that enough to fund early retirement? I love being self employed, but my earnings dropped by a huge amount after I left my job. I couldn’t fund our early retirement alone through part-time income. We have been doing very well financially because Mrs. RB40 still works, but she is planning to retire before 2020. We will need to figure out how to pay the bills before she can retire. Here is how we’ll fund our early retirement.
- 50% from part-time work/side hustles.
- 25% from our dividend portfolio.
- 25% from rentals and other investments.
That’s pretty straight forward, but we may not get there by 2020. It’s also prudent to plan for the worst case scenario. What if Mrs. RB40 quits in 2017? Can we both retire and live comfortably? Let’s crank the numbers.
2017 Contingency Plan
Annual Expense – $4,500/month
Currently, our annual expense is under $55,000 and we should be able to maintain this level for at least few years. My biggest concern is the cost of health insurance. Currently, we’re covered under Mrs. RB40’s employer sponsored plan, but we will need to pay for our own health insurance after she retires. Here is the good news. I just checked the healthcare marketplace and we could get a silver level family plan for about $300 per month with subsidy. That’s not bad at all and it won’t be a big impact to our annual expenses. We’ll keep our monthly expense budget at $4,500 for now.
Let’s look at our income sources in 2017. Our most stable sources of income are my online income and our dividend income. These add up to about $3,500 per month. They should be dependable for the next few years.
- Online income: $2,500/month (55% of expense)
- Dividend Income: $1,000/month (22% of expense)
We have other income sources too, but they are not very reliable.
- Rentals: $700/month. Our rental properties aren’t a reliable source of income. The problem with the duplex is the age of the property. The home is 125 years old and there are expensive repair and maintenance projects every year. In 2017, we’ll need to paint the exterior and that would wipe out most of the income in one fell swoop. Our rental condo is cash flow neutral so we won’t make any money there, either. We plan to cash out from the rentals eventually, but it will take a while to exit these investments. These properties are appreciating nicely, though.
- P2P lending: $70/month. I don’t think we can count on uncollateralized P2P lending. I’m going to pull out of P2P lending in 2017 and try real estate lending. From what I heard, RealtyShares is a good place to invest. We have $10,000 invested here so it’s not a huge percentage of our net worth.
- Side hustles: $100/month. Some months are slow on the side hustles. I think we could ramp up this income once Mrs. RB40 retires from her full-time job. We could both tackle more side hustles and make more money as needed. Mrs. RB40 is on an email list that announces a lot of temporary job openings that she could do. I don’t think it would be difficult to generate $500 to $1,000/month from side hustling.
So we have about $3,500 of dependable income and we’re iffy on about $1,000 per month. The income from other sources isn’t steady right now so we can’t count on them. If Mrs. RB40 retires in 2017, we would need to fill that gap with some withdrawal from our Roth IRAs. I prefer to avoid withdrawal from our retirement accounts, but $1,000 per month is very small. It is way lower than the 4% safe withdrawal rate and it should be relatively safe.
Why withdraw from our Roth IRAs?
- We can withdraw the contributions in our Roth IRAs without paying the 10% early withdrawal penalty. Currently, we have about $175,000 in our Roth IRAs and a lot of that can be withdrawn without penalty. Your contribution to the Roth IRA can be withdrawn at anytime with no penalty.
- Once Mrs. RB40 retires, we can start building our Roth IRA ladders. We will transfer a portion of our traditional 401k to our Roth IRA every year. After 5 years, we will be able to access this fund without having to pay the 10% penalty. You can read about it more in this article – Build a Roth IRA Ladder to Minimize Taxes in Early Retirement. I plugged some numbers into the H&R Block tax software and we can rollover about $40,000 in 2017 without increasing our tax. Affiliate link to Amazon above. It’s never too early to start doing taxes. 😀
- I will funnel most of our part-time income into our 401k. This will increase our deduction and help control our taxable income. Decreasing our taxable income will help us qualify for the healthcare subsidies. Also, we won’t pay any tax on our dividend income if we’re in the 15% tax bracket. Minimizing taxes is very important because it is one of the highest expenses you’ll have.
The Roth IRA is our buffer account. It’s a way to access our retirement fund while avoiding the 10% early withdrawal penalty. The plan is to rollover our 401k to our Roth IRAs a little bit every year. By the time we’re 60, most of our retirement asset will be in the tax-free bucket.
This is getting complicated and I probably should write a post just on this. Meanwhile, here is a diagram I made.
As you can see, we will need to be flexible when Mrs. RB40 retires. We will withdraw from our Roth IRAs as needed and this will help cover the gap from our dependable income sources. Also, we could both work a little more to increase our part-time income as needed. Another option is to decrease our expenses. Once Mrs. RB40 retires, we will be free to move to a cheaper location if we need to. Portland is getting more expensive and Oregon isn’t a good state to retire in because we have high state income tax.
Anyway, that’s how we will fund our retirement if Mrs. RB40 decides to push up her early retirement deadline. We will need to withdraw about $12,000 per year from our Roth IRAs, but our accounts should be able to handle it. Eventually, we will sell our rental properties and move most of the money into dividend stocks. Once we’ve done that, our dividend income should be able to cover the other 50% of our annual living expense.
What about you? How will you fund your early retirement?
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For 2018, Joe plans to diversify his passive income by investing in US heartland real estate through RealtyShares. He has 3 rental units in Portland and he believes the local market is getting overpriced.
Joe highly recommends Personal Capital for DIY investors. He logs on to Personal Capital almost daily to check his cash flow and net worth. They have many useful tools that will help every investor analyze their portfolio and plan for retirement.
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