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Why Save So Much in Our Retirement Accounts?


This is the follow up to the previous blog post – How to save $50,000 per year in your tax advantaged accounts. Is it really a good idea to save so much in our retirement accounts? Should we cut back a bit and invest more in our after-tax account? One downside of saving over $50k/year in our tax advantaged accounts is that we aren’t able to add to our dividend portfolio much. This could be a problem for early retirees like us because we will need to access those retirement accounts before we’re 59 1/2. I don’t want to pay the 10% early distribution penalty. Who does?

Of course, there are great benefits to saving in the retirement accounts.

  • Save on tax now – We don’t have to pay tax on the money invested in the 401k plans until we make a withdrawal. I’m pretty sure we’ll be in a lower tax bracket when we both fully retire so we will pay less tax overall.
  • Save on tax later – The Roth IRA is great because you don’t have to pay any tax on the earning when you make a qualified withdrawal. Why pay tax when you don’t have to?
  • Automated – The saving is mostly automated so we don’t have to think much about it. If you think too much about it, you’ll come to the conclusion that spending money now is better.
  • Access – The retirement accounts are not as easy to access as the after tax account. The 10% early distribution penalty will make you hesitate to take the money out. Hopefully, you’ll leave those accounts alone until you’re fully retired.

Early Withdrawal

There are a few ways to access your retirement saving early without having to pay the 10% early distribution penalty.

  1. Early 401k withdrawal – If you leave your job the year you turn 55 or older, then you can start making withdrawals without having to pay the 10% penalty. This is a nice side benefit of the 401k plan.
  2. Substantially Equal Periodic Payment (SEPP) – You can use the IRS rule 72(t) to access your retirement account. Basically, you will have to take a certain amount of payment for at least 5 years. (5 years or when you’re 59 1/2, which ever is later.) This is a good option if you have too much money in your retirement accounts. You can read more about it here – Should you use IRS rule 72(t) to access your retirement fund?
  3. Rollover to the Roth IRA – You can roll your 401k and traditional IRA over to your Roth IRA. After 5 years, you will be able to access the contribution (the amount rolled over) without having to pay the 10% penalty. You will have to pay normal income tax when you make the roll over. I think you can minimize the tax by rolling over only part of your 401k and IRA.

Early Retirement

So how does this fit in with our early retirement plan? We both want to fully retire when we’re 55. If we continue to invest $50,000 per year in our retirement account, there is a good chance we’ll hit 2 million dollars by 2030 according to FireCalc, my favorite calculator.

If Mrs. RB40 can hang on until she’s 55, then she can make withdrawals from her 401k without having to pay penalties. I can use rule 72(t) to withdraw some money from my IRA at that time as well. We’ll make it simple and assume we both each have a cool million bucks each in our retirement account.

Why save so much in retirement accounts? 72t early withdrawal

According to Bankrate’s 72(t) calculator, I can withdraw about $34,000 with the RMD method. Mrs. RB40 can withdraw a similar amount from her 401(k). We’ll have $70,000 per year to spend. If all goes according to plan, our house will be paid off and we won’t have any debt. RB40 Junior will be in college and the 529 will be sufficient to help him get through higher education with minimal debt. In that situation, I think $70k/year would be okay. Who knows what our expenses will look like in 15 years, though. Inflation will make everything much more expensive by then. We could withdraw more if we need to raise our budget for international traveling or something like that.

Keep Saving

For now, I still think it’s a good idea to keep saving in our retirement accounts. We’ll evaluate our situation every few years and see how things are going. If things go as plan, then we won’t have any big changes until 2030 when we both fully retire. Of course, life rarely plays out according to plan. It will be easier to evaluate when we get closer to 55. I guess if we hit $2,000,000 early, then we can focus more on our after tax account.

I know some of our readers save much more than $50,000 per year in their retirement accounts. What would you do if you have too much money in your retirement accounts? 

Disclaimer: I am not a tax expert. You need to check with your tax accountant before doing any of this.

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Joe started Retire by 40 in 2010 to figure out how to retire early. He spent 16 years working in computer design and enjoyed the technical work immensely. However, he hated the corporate BS. He left his engineering career behind to become a stay-at-home dad/blogger at 38. At Retire by 40, Joe focuses on financial independence, early retirement, investing, saving, and passive income.

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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{ 32 comments… add one }
  • Mr. Frugalwoods December 17, 2014, 4:00 am

    We’re planning a roth conversion pipeline since we’re dumping a ton into our 401ks now.

    I don’t really like to count on a “loophole” to access money. But our expenses are so low and out income is so high that _even_ with the 10% penalty we’d pay less in taxes/penalty in early retirement than we would in taxes now. It would be less of a good deal, but we’d still come out ahead.

    Since we’re also planning to keep our current house as a rental, that’s a decent cashflow buffer to avoid needing to use our tax advantaged savings immediately. In most of our projections, I don’t have us using any of our tax advantaged stuff until we’re actually old.

    • retirebyforty December 17, 2014, 9:02 pm

      That’s an interesting point about the 10% penalty. We’re planning to start the Roth conversion pipeline at some point too. Our income is still a bit high, though.

  • Nicoleandmaggie December 17, 2014, 4:38 am

    We’re not planning on early retirement so I don’t think we can have too much. We might was to spent more in the present, like next year when I am on half salary, but we will play that by ear.

  • Dave in Sunny FL December 17, 2014, 5:15 am

    You can automate after-tax investing (whether through no-commission Vanguard funds or DRIPs through computershare.com), so that’s really not an advantage of before-tax investing. You can also sell long-term stock holdings with NO capital gains tax (in the 10 or 15% tax bracket), so that’s better than the delayed tax of 401k or regular Roth. I hate feeling like my money is “tied up” and I’m strapped, while my retirement balances are inaccessible. I’m grateful for our DRIPs and our HELOC, that give us access to cash when needed

    • retirebyforty December 17, 2014, 9:05 pm

      Last year, we were in the 15% tax bracket and it was pretty nice. We didn’t have to pay capital gain or tax on dividend. I’m not sure we’ll be down that low again, though.
      It’s just so much easier to automate the 401k accounts. I still think it’s an advantage.

  • P2PInvestor December 17, 2014, 6:33 am

    One HUGE advantage of investing within a tax deferred account is avoiding “tax drag” on interest and dividend income. This is a big boost to compounding long term returns. Asset location is the other “free lunch” of investing (2nd to diversification).

  • Caro December 17, 2014, 6:35 am

    Wow, this article truly resonated with me and is the crux of one of my financial stressors. I will give full disclosure in the event others have input. It wasn’t until I left my corporate job (2 years ago) and had time to look at our finances and retirement goals that I thought about a dividend portfolio to bridge the gap between early retirement (we hope) and when typically withdrawals can be made from retirement at 59 1/2. Psychologically I fear that I will have difficulty touching retirement accounts before 60….and I fear that we will scrimp when we still have our health and love to travel and end up with money that we could have enjoyed but were too conservative to use when we were healthy. So a dividend portfolio seems perfect, but the problem is I don’t know that this late we can fund it enough to yield much of anything. Here is our financial picture.

    1) Retirement Accounts (hubby and I) are just shy of $1.4M (thank you compounding!)
    2) Taxable Investments (of which only $25K are in dividend stocks) total a little over $100K. To move the other $75K into dividend stocks I would have to sell S&P 500 and small cap index funds which I have held a long time….tax consequences. So can’t make a decision here, but may sell in 2015 if the stock market rebounds and our household income is still low. And then knowing myself I will steal from the cash stash to fund hubby and my ROTH IRA (did that last time I had money in the taxable money market account).

    I am 45 and although I took a break to spend with the kids I will go back to work in some capacity in 1-2 years. The plan I worked out in my head when I returned to work was to continue maxing out the husband’s 401K, contribute enough to get whatever the match is at my company (if one exists), and put the balance in dividend stocks (which will take discipline…would have to setup auto monthly transfers from checking). Given we only have about 10 years to my desired retirement I worry a lot about how we will fund our lifestyle in the early years of retirement.

    Any advice is appreciated.

    Thank you!!!

    • retirebyforty December 17, 2014, 9:10 pm

      Great job with your retirement fund! One good option is the early 401k withdrawal. If you retire at 55, then you can take money out of your 401k with no penalty. That timeline sounds just right for you. If you leave earlier, you probably can go for the SEPP. In 10 years, your retirement funds will probably be pretty big. It will probably be a good idea to take some money out then. You can always reinvest any left over in your after tax accounts. Good luck!

  • Justin @ Root of Good December 17, 2014, 6:47 am

    I’m with you 100% here, Joe. We “only” saved 15% marginally while working (plus another 7% on state taxes) directly, but we also qualified for more tax deductions as our AGI decreased (like deductible IRAs, and the retirement savers contribution credit some years).

    Our withdrawals or conversions of IRAs during retirement will be low enough that we probably won’t owe any federal tax for the next 15 years until the kids are out of the house, and maybe until RMDs set in at age 70.5 (over 3 decades from now!).

  • Peter December 17, 2014, 7:33 am

    What about pulling money from your principal in a Roth IRA to use for your expenses? That is definitely something I’m thinking of doing during my early retirement at the age of 45-50.

    • retirebyforty December 17, 2014, 9:12 pm

      I thought about that too, but it seems like a good idea to leave the Roth IRA alone. If you’re in a low tax bracket already, it’s not very advantages to take out the tax free money. The Roth IRA would be more useful when you are taking 401k and receiving social security.

  • Mom December 17, 2014, 7:36 am

    Depending on what your tax rate is while working and the rate during withdrawal, the tax plus penalty of withdrawal may be less than the tax you saved by contributing. Ex: 28% tax rate while contributing, 15% rate (or lower) when withdrawing. 15+10% is still only 25% – less than the 28% you saved from contributions. Yes, it still would suck to lose an extra 10% to uncle sam, but the raw numbers may make it a good option.

  • Ravi December 17, 2014, 7:51 am

    I’d rather avoid having to pull money out from retirement accounts early. Rules can change and ages can change, although I admit I see that as a low risk since govt rarely messes with retirement stuff… especially given we do a horrible job of preparing for it anyway (in general).

    Right now, I’m single and maximize my 401k and a Roth. Including employer match, it’s roughly 28k per year between those. 14k roughly will go into taxable accounts, so roughly a 2/3 retirement and 1/3 taxable mix right now.

    I’m still thinking it over, but as I plan for 2015 I may shift that mix a bit, even if it means not maximizing retirement contributions. I don’t have discipline problems, and am more of a saver than a spender, and also don’t churn my holdings too much, so not too much in taxable income from investments anyway.

    I’d like to build up a dividend/stock portfolio. For the foreseeable future, until I get married and income increases to 250k or whatever and the investment taxes rise above 15%, it’s a very small amount to pay. The benefit of a 401k will be higher in the future if my income increases, so less taxes paid in addition to the benefit of liquidity.

    Wealthfront actually wrote a decent piece against 401k’s. Of course, if you have access to good funds, it’s kind of a wash, but the jist is that you should be compensated in a retirement account for lack of liquidity, and alter your mix appropriately. I don’t agree with it completely, mostly because my 401k has good options, but you can see the point fairly easily.

    Btw, I’m not a customer, but some of their blog pieces are good.


    • retirebyforty December 17, 2014, 9:18 pm

      Great job with your saving and investing! Building up your taxable account more is a good option too. As long as you don’t churn it too much, you won’t have to pay much capital gain tax. That’s another big difference between 401k and taxable account.

  • john s. December 17, 2014, 11:22 am

    Regarding SEPP — unless the rules have changed, once you start taking them you have to continue for five years OR until age 59 1/2, whichever comes LAST. That’s not a problem when you’re taking them in your mid 50s, as you plan to do, but it’s risky for someone younger to be locked into mandatory annual withdrawals when you hit a patch like 2008.

    • retirebyforty December 17, 2014, 9:18 pm

      I updated the article to make it more clear. Thanks.

  • No Nonsense Landlord December 17, 2014, 7:44 pm

    Keep saving and maxing out the retirement accounts. I know they really make a difference. I am ready to pull the full-time work plug myself, and my 401K and after tax accounts will be a primary source of income at some point. Until then, it’s my rentals.

    I have near $1M in my 401k, Roth and IRAs, and it’s a nice feeling when the market is up 2%. (Not so much on the way down though…)

  • LeisureFreak Tommy December 17, 2014, 9:17 pm

    I fund my early retirement with the SEPP 72t IRA monthly equal distributions. I started at age 51. I was way heavy on 401K/IRA investments. It is true that once you start you must continue for 5 years or until age 591/2, which ever is longer of the 2 but in the event of financial market collapse or you decide to return to work you can still make one change in payment direction to the Minimum Distribution Method to reduce payout.

  • SavvyFinancialLatina December 17, 2014, 10:56 pm

    Right now, investing in our retirement to the max seems like the right option to me.

  • Mr. Maroon December 18, 2014, 7:42 am

    Right now our plan is to load the 401(k) and Roth IRA each year, with the remaining going to 529 CSP, taxable investments, and additional mortgage principal. As soon as possible after leaving a job, the 401(k) is always rolled into a Rollover IRA. Once our “early retirement” hits, we will begin the IRA to Roth IRA conversion, limiting the amounts as necessary to keep the taxes as low as possible. We’ll have the taxable account to draw from, as well as the previously taxed Roth contributions we’re making now.

  • Vawt @ Early Retirement Ahead December 18, 2014, 8:02 am

    I have been leaning more towards tax advantaged accounts with about 7 years left to go. However, we still try to max the two Roth accounts as well. Hopefully we can do the Roth conversion on our larger IRA accounts. I think we will have a decent cash stockpile as well at the early retirement point as well.

    I plan to consult of work part-time for a while, so I think that would cover our bills. My wife is also planning to work longer than me as well.

    • retirebyforty December 19, 2014, 7:34 am

      If you still have income after early retirement, then the tax advantaged accounts are the way to go. You won’t need to withdraw much and you can let the retirement accounts accumulate.

  • supernova72 December 18, 2014, 9:21 am

    Great post. I turn 55 in 2015 so timely indeed. I don’t have that cool $1M however. About 750k projected for year end 2015. I do have a pension that would pay 36K annual at 55 so with that combo at 4% withdraw rate about ~65K annual income.

    The elephant in the room is I still owe 150K on my mortgage. Ugh. I really can’t downsize unless I go the condo route.

    I also have an option to accelerate my pension at 42K a year 55-62 pre SS draw. Then it would drop to 32k on out. Tempting. Trying to figure out a way to kill the mortgage but at this point the lotto might be my only option–ha!

    • retirebyforty December 19, 2014, 7:36 am

      The pension is great! Do you have a 401k? You can take withdrawal from that to help with the mortgage. Accelerating the pension might be the way to go. When you’re 62, you can take social security to supplement your income.

      • supernova72 December 19, 2014, 11:58 am

        Oops, oh yea. The 75oK projection is my 401K yes (currently 705k). Not much outside of the 401K for savings 🙁 On the accelerated pension option yes it decreases by 10K at 62 but my SS should be 20K at 62 so still a bit of a “raise”. Ha!

  • Shane December 20, 2014, 8:31 am

    For the years when you have the mortgage interest deduction, kids at home and are in a low tax bracket, I would be putting more into your Roth than a traditional IRA/401(k). When your kids are out and your mortgage is paid off you’ll likely be in a higher tax bracket. I’d say if you’re paying 15% tax right now, definitely put more in your Roth savings. Not only are you in a very low bracket with the extra dependents and interest deductions, but we are in a period of historically low tax rates as well. The rates may very well creep higher in the next 15-20 years. Then you’ll have fewer dependents, no interest deduction and you’ll be pulling retirement funds out which are taxed at ordinary income tax rates.

    I’m a fan of having both types of accounts, but timing can save you major tax dollars. When you’re young with a lower income, extra dependents and extra deductions – contribute more to your Roth. When you’re older with a higher income, fewer dependents and less deductions – contribute more to your tax-deferred account. This is a discussion to bring up with your CPA… if he doesn’t understand, fire him/her and get someone who will help you optimize your contributions/distribution plan over the long-term. Many CPAs tend to only think about saving you the most in the current year, even though this approach does not always make the most sense for every person.

    • retirebyforty December 21, 2014, 10:32 pm

      We put more in Roth when our tax was 15% for one year. This year it will be higher. I’m not sure about future years. I like having both type of accounts too.

  • Steve Adcock December 22, 2014, 7:53 am

    My wife and I save a combined $80,000 or so every year into our investments. We max out our contributions to our 401k retirement accounts and primarily save the rest in a brokerage account that we opened, which will give us the freedom and flexibility to start withdrawing whenever we want. We will have enough in there to last us until official “retirement” age according to our government – that’s the plan, at least.

  • cato December 23, 2014, 1:58 pm

    That FireCalc app is real nice.

  • papadad December 28, 2014, 7:10 pm

    An Advantage of a company sponsored 401K not often considered: As a rental property owner, Joe, you should consider the benefit of protection from litigation that a 401K account provides the holder. The same protection is not offered to IRA/Roth or any of your taxable accounts. This is one of the main reasons that I do not recommend rolling over a decent corporate 401K into a personal IRA or Roth. If you get sued by a tenant, you won’t lose everything you own. (make sure to carry a good unbrella insurance policy too – something I recently explored)

    one warning on putting all eggs into the 401K/Roth/IRA — The government can (and likely will) change the rules sometime in the next 20-25 years as the social security shortfall becomes more evident and addressable. With respect to tax deferred accounts such as 401K/Roth/IRA, I think it’s presumptuous to believe the government will keep all tax-deferred account rules unchanged. While today there is 72T, what’s to prevent the government from requiring =increased= minimum annual withdrawals in the future as a means of collecting taxes sooner? Sounds like a perfect solution to some of the SS shortfall (ahem…).

    I believe just like investing, diversification is key. I try to keep a 2:1 ratio between fully taxable accounts and tax-deferred accounts. The taxable accounts are loaded with investments that carry long term capital gains taxes (today taxable at somewhere between 0% – 15%, some will pay as much as 20% depending on income). The tax deferred accounts are growing tax free for now in most cases, and always fund the Roth accounts first before the non-Roth/Traditional 401K/IRA accounts given the zero-tax status.

    Keep in mind – Roth offers a tax free withdraw after 5-year holding period, and I think the Roth IRA and Roth 401K are about the best deals out there … i always suggest, if your income is below the 126K threshhold to invest in the Roth and/or Roth 401K first !

  • Caro January 8, 2015, 10:37 am

    You did a phenomenal job of funding your retirement accounts. But here is my question (and also my struggle). Is it worth diverting some money that could go into retirement accounts into your taxable dividend portfolio (to generate passive income that would help before you are old enough to start dipping into the retirement accounts). It may be an easier question for yourself than for me as you have a much larger dividend portfolio. If I took all of my money that is in taxable accounts and put it into dividend stocks (sadly, it is invested otherwise since that strategy did not occur to me when I originally invested the money) we would be lucky to get $3k a year. But to fund it would take money away that is currently going into retirement accounts and I have not been able to do that (even though we have a very large amount in our retirement accounts). Thoughts? Am I making sense?

  • Dr. P May 11, 2015, 9:26 am

    As a footnote to the comment by “PapaDad” – legal protection of your IRAs is state-law driven. The IRA is every bit as sound as your 401k plan, depending on your state. True, in CA, the home of the wacky 9th circuit and other strange laws, you are correct that only your employer-sponsored plans are fully exempt from creditors. In many other states, however, e.g., Texas, Washington, Florida, North Carolina, to name a few … IRAs are fully exempt from creditors, just like employer-plan assets. In fact, in Florida, legislation now even protects INHERITED IRA assets from creditors, so FL residents can be assured their money will go to their kids, even if the kids get sued. This is the whole reason OJ moved from CA to FL.
    The umbrella policy is a great idea regardless, though, for anyone with substantial assets to protect.

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