Over the last few weeks we talked a lot about how our timeline for retirement could look like. The more I think about it, I am not really willing to work until I am 67, 65, or 62 for that matter. I want to be able to be really physically active during retirement and who knows how things look like 15 years from now. I will be 66 in 15 years.
We both want to travel when we retire and an important part of that will be being outdoors – be it hiking or biking or whatever else we can come up with to do outdoors. We do not want to be that old couple slowly walking somewhere, maybe even with the help of a walker or rollator and being stuck because of physical limitations. Those days will come early enough (and I am not looking forward to it). We want to be able to go deep into national parks and see everything and not be handicapped or slowed down by an old body.
Again, we know it is inevitable that those days come – even more the desire to punch the clock one last time at work and then head out to make the most out of retirement. Our discussions have shifted quite a bit over the last few weeks. A big topic is how to a) make early retirement financially come true, but also think about b) the financial impact to our social security benefits and retirement savings accounts.. The earlier we stop working, the smaller our social security benefits will be. The earlier we retire, the smaller our 401K plan account balances will be. If we would retire before being 59 we could not easily tap into our retirement savings without being penalized with tax penalties and early withdrawal penalties. The big question therefore is:
How can we avoid being poor during retirement?
We will have to build a strategy around this major question. I see the need to attack this problem early and from many different angles and to top it all off – these efforts have to run in parallel and they have to be sustainable to go far into our retirement. Here are the 5 key items we are looking at:
1) Optimize current income for maximum 401K and social security contributions
2) Reduce cost of living way before we get to (early) retire
3) Pay down our mortgage as much as possible and plan for a re-fi before we retire (early)
4) Build up additional income sources now before we get to (early) retire
5) Build up passive income sources as soon as possible
Let’s get into details for each of these action items.
1) Optimize current income for maximum 401K and social security contributions
This one is straight forward. Goal is to max out with our 401K contributions to whatever the current levels are. In addition, increase our salaries as much as possible until we retire. Ok, deep dive on these. Simone is already contributing 25% of her salary to her 401K plan. However, her salary is not that high that she maxes out with her contributions. We will need to do some more math here and slowly up her contributions. I am in a more fortunate situation. My salary has increased a lot over the last 2 years and 2018 was the very first year where I maxed out with my 401K contributions. I am also eligible for catch-up contributions as I am now 51 years old. The current limit is $6,000 per year. Besides finding out how to make these catch-up contributions, making sure I take advantage of this option is important. I am also above the max contribution limit for social security – meaning there is nothing I need to do or can do about it. Simone however is far away from the contribution limits and there is no way she can increase her salary that much to reach those limits. We will concentrate on her 401K contributions accordingly.
What about using IRAs?
We both have rollover IRAs from previous employments. We have not been actively contributing to those accounts. I do not know much about this topic – definitely need to further investigate how we can use these to further optimize our cash-flow when we retire. There are age limits before you can take money out and that will impact our access to some of these funds.
2) Reduce cost of living way before we get to (early) retire
This one is a no-brainer. If we can reduce our cost of living now, it will be much easier to adjust for when we retire. We live quite comfortably at the moment and while we save a lot of money into different saving accounts, optimizing our income/spending to reduce our expenses is important. Do we rather spend $50 on a dinner experience now, or can we use the same $50 from today and “buy” a more comfortable retirement a few years from now? I think the answer is obvious, but getting there means to break a few habits. So, this requires a bit of work, but I feel we can free up a good amount of money over time that way. Reduced spending habits will also help the moment we retire as we do not have to make a big shift in that moment. I think that is a big problem for many people when they retire and it puts a big dent into their retirement savings early on. I am planning to be around well into my 90s ideally, so a big dent in my retirement savings early on would pose a major problem.
3) Pay down our mortgage as much as possible and plan for a re-fi before we retire (early)
Our retirement plan looks for a split approach. Early on we want to travel a lot and it would make no sense to fully maintain our current house. The house still carries a mortgage and even if we would not be here we would still have to pay for maintenance, insurance, taxes, repairs. We both agree that we could rent it out for a year or two early on while we travel. By paying down the mortgage as much as possible and then doing a strategic re-finance we will put ourselves into a position to rent it out and to create some passive income that way. If we would rent it out today we would be able to achieve extra income of ~$600 to $700 per month. In a perfect world with our planned approach we might be able to get this up to ~$1,000, maybe even ~$1,200 per month. Currently we make about $800-$900 of extra payments per month on our mortgage. I want to increase that number to at least $1,000 extra per month. Time is in our favor, so these extra payments will work nicely in our favor to achieve this goal. Our current interest rate on our mortgage is 4.25% and depending on how things go we hope to do a re-finance of the mortgage to lower the interest rate and to potentially bump it backup to a longer term again (30 years?). I am not sure if the ladder is a smart move or if we should still aim for total elimination of the mortgage debt. This question probably warrants a much deeper conversation and research.
4) Build up additional income sources now before we get to (early) retire
We cannot wait until we retire to build up extra income. This needs to start in the very near term. The benefits of building up additional income are two-fold. Having additional income available would help us to build up more savings before heading into retirement. It would also help with paying down the mortgage much faster and to build up non-retirement savings. Ideally this additional income carries over into retirement and would allow us to substitute the loss of our salaries. Combined with reduced cost of living extra income can make for a comfortable early retirement. It would additionally allow us to delay applying for social security benefits. If we can postpone applying for social security until our late 60s, the higher the benefits would be. I see this as very important because we will stop adding to our social security earlier than if we would continue working until age 67 (or longer).
5) Build up passive income sources as soon as possible
Building up passive income kind of goes hand in hand with the need to build up additional income. But building up passive income goes a step further. As the name suggests, this form of income would be passive – not requiring active involvement (aka work) from our side. As an example, the income from renting out our house is passive income with very little involvement need from us. If we can build up additional ways to create passive income it would go long ways to allow us to travel for an extended time. As already mentioned previously, if we can postpone applying for social security benefits for a while we make up for not having made any contributions from when we retire.
This is the high-level idea for us and how we feel we can afford to retire early from a financial perspective. There is a lot of moving pieces and we will have to take advantage of the remaining years until then. 4-8 years sounds like a lot of time, but time goes by quick and when it comes to these things there is no time to waste. Taking advantage of the financial compound effect is critical for our plan to become a success. It is a multi-pronged approach and we are confident that this is a big part to follow. It reduces risk of failure, especially the risk of having a single point of failure in our calculation. During the early years of retirement we want to travel, while the later years will see us settle down again. We have to put this approach or plan into consideration with everything we do when planning out our retirement.
Summary
This whole thing feels pretty unreal right now, but on the other side the light at the end of the tunnel just got a little brighter. Now too long ago I was honestly thinking that I better work until I am 67 years old to maximize my social security benefits and still would be worried how to pay for things to maintain my lifestyle. I think I am slowly getting around to look at this differently. There is one thing in life that we cannot control and that thing is time. The clock starts ticking the day we are born and it can run out pretty quickly or it can go on for a very long time. There is a lot of things that you can buy during that journey, but memories and how you use time along the way – that is stuff you cannot buy. The more I think about it, the more I feel I wasted already enough time in my life and now it is the moment to adjust the route of the journey and make it a bit more meaningful and fun. I’ve been in the rat race for way too long and a different way of doing things was probably there the entire time, I just did not see it properly. It would be nice to be able to make a dramatic change sooner, but our son is almost 14 years old and will go to high school next (school) year. Is it wise to change his path now or do we do him better by showing how we are going to do it when he leaves school? Neither of us feels competent enough to do home schooling and I think the next four years for him are important. Socialize, fall in love the very first time, drive a car for the first time – stuff like this. We can show him an alternative to the rat race journey at the same time and see if he is interested in living his life differently.
So, with that being said – if we cannot make a dramatic change right now, we will make sure that the change we are going to do is meaningful and maybe helps our son to see the light much sooner. Not a bad thing if you look at it that way. Let’s do it.
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