While most working Americans say they plan to continue working until age 66, the average retirement age in our country has remained age 61 for the better part of a decade.1 For many, the decision to retire early is a conscious choice. For others, external factors such as corporate downsizing or poor health force them out of the workforce earlier than anticipated.
Whether it’s intentional or unplanned, retiring early is going to place an additional strain on your financial resources – one that requires careful planning. Not only will your assets probably need to provide income for additional years in retirement, you’ll also be losing some of the highest earning years of your career; which translates to less money saved for retirement as well as a potentially smaller Social Security benefit.
Plan early to retire early
Like any other goal, an early retirement is achievable when you plan far enough in advance. There are a number of factors you’ll need to consider when thinking about retirement – especially if your goal is to exit the workforce before you are eligible for Medicare (age 65) or reach “full retirement age” for Social Security benefits (age 66 or 67 depending on when you were born).
Start by looking closely at your current financial situation as well as your anticipated income flows and expenses in retirement. Will you have a healthy employer pension, or will your income need to be derived solely from your Social Security benefits and retirement savings? What type of retirement lifestyle do you envision? It’s important to have an honest conversation about what is and isn’t feasible. Often, trade-offs will be necessary. A strong desire to maintain a certain retirement lifestyle may require postponing your retirement; whereas a commitment to retiring early might necessitate some scaling back of your retirement lifestyle goals.
The sooner you start planning, however, the fewer trade-offs you’ll likely need to make. If you’re still in your 50s, you have an opportunity to use “catch-up contributions” to help fortify your retirement savings to cover those extra years of planned retirement. Each year, the IRS allows workers age 50 or older to make an additional tax-deferred contribution of $6,000 to your workplace retirement plan, along with an extra $1,000 contribution to your IRA.
Additionally, if you are currently enrolled in a high-deductible health plan, you may want to consider making contributions to a health savings account (HSA). Like an IRA, contributions to an HSA can be made with pre-tax dollars; all earnings are tax-deferred; and all distributions are tax-free when used for qualified medical expenses. For 2019, individuals can contribute up to $3,500 ($7,000 for families) to an HSA plus an additional $1,000 catch-up contribution if you’re age 55 or older.
Bridging the healthcare gap
If you’re contemplating an early retirement, one of the single biggest challenges will be finding a way to bridge the gap from the time you retire until age 65 when Medicare coverage begins. Assuming you’ve paid off your mortgage, healthcare will likely be your single largest retirement expense – a non-negotiable cost that needs to be factored into your retirement plan.
The following are some of the more common ways that early retirees address their healthcare coverage needs:
- “Encore” career – Along with extra income, healthcare costs are one of the principal reasons why many retirees choose to pursue a second career after they retire. Whether reconnecting with a lifelong passion or applying your skills to help those in need, it can help you remain engaged and active while providing much needed health coverage.
- Employer plan continuation – If you’re fortunate, your employer may allow retiring employees who aren’t yet Medicare eligible to continue coverage under the company plan. While the continuation of coverage may involve a reduction in benefits or an increase in monthly premiums, it’s often the most cost-effective option if available.
- COBRA – Companies with 20 or more employees are required to offer an extension of medical plan coverage (up to 18 months) under COBRA. However, since you are required to assume the full, unsubsidized cost of benefits, this can be an expensive undertaking.
- Individual health insurance – Alternatively, you could purchase an individual policy directly from a private insurer or through your state’s health insurance marketplace. Premiums will vary greatly based on coverage specifics and deductibles, but for a healthy individual, this may be a more affordable option than COBRA coverage.
When should I claim Social Security benefits?
If you plan on retiring early, you may also be inclined to claim Social Security benefits early as well. Although you can begin drawing benefits at age 62, there are several other considerations that need to be factored into your claiming strategy – such as your current health and family history of longevity; whether you’re married and if there’s a considerable age difference between you and your spouse; and if you plan to continue working in some capacity after you retire.
Make sure you understand the long-term (and possibly unexpected) impact of claiming Social Security benefits before reaching your full retirement age. Assuming you’re eligible to receive 100% of your Social Security benefit at a full retirement age of 66, your benefit would be reduced to 75% if you retired early at age 62. If, however, you delayed retirement until age 70, your benefit would be increased to 132%.
Choosing an early retirement also typically removes some of your highest potential earnings years from the calculation used to determine your maximum benefit (a calculation based on your 35 highest income working years).
If you opt to continue working in a full or part-time capacity after you’ve begun receiving benefits, you also may be subject to having a portion of your benefits withheld as well as having more of your benefits taxed as income.
- For every year prior to reaching your full retirement age, you would lose $1 in benefits for every $2 you earn in excess of the earnings limitation threshold ($17,640 in 2019). Once you reach full retirement age, however, you can earn any amount annually with no reduction in benefits.
Additionally, claiming early Social Security benefits while you continue to work could negatively impact both your spousal and survivor benefits. So, it’s vital that you discuss any early retirement plans with your SunTrust advisor, so he or she can factor any benefit reductions into your income and cash flow projections.
Certainly, the financial impact of an early retirement can be considerable. But so too can the emotional impact. Regardless of your age, flipping the switch from working full-time to suddenly being retired can be deeply unnerving. Shedding the corporate yoke, however, doesn’t mean having to disconnect from the world. Make sure you also have a plan for how you’ll stay active and engaged – whether by pursuing an avocation, giving back to the community, or reconnecting with friends and family.
Remember, even though you’ve probably worked for 35+ years, your retirement quite possibly will be nearly as long. It’s a unique opportunity not only to rediscover what you love but to reinvent who you are. And it all starts with a plan!