Lampeter Financial

Thinking about an early retirement? You’re not alone. An increasing number of people are setting their sights on an early exit from the working world, which is a little surprising considering the economic and financial turmoil of recent years. In fact, many people are formulating specific plans for achieving early retirement , and chief among their strategies for accomplishing that are scaling back their current life styles, increasing their retirement plan contributions and reducing their standard of living expectations in retirement. A touch of frugality mixed with more aggressive savings sounds doable – difficult, but doable. But, if your truly have your sights set on retiring early, you may want to consider this phased strategy that employs annuities for more certain results.

The challenge in early retirement planning is that it requires setting aggressive target dates and committing to an ambitious savings plan, both of which are good and doable. The problem lies in the reliance upon the cooperation of the markets to get you there. That’s fine too, except, one bad streak in the markets, or any significant change in your own circumstances can throw off the trajectory of your retirement plan. Of course, the worst case is that you could simply move the goal posts. But, to work all of that time making the financial sacrifice along the way, only to come up short would be extremely disappointing.

Also, if you come up a little short in your accumulation, you may be tempted to tap your Social Security benefits early. While this can help shore up your income, it will cost you tens of thousands of dollars of benefits that would otherwise be payable to you were you able to wait until 65, or, better yet 70. A sound early retirement plan should enable you to postpone your Social Security benefits as long as you can in order to optimize your lifetime income.

Phase into Early Retirement

Instead, you could consider a phased retirement goal combined with the use of annuities that will enable you to transition into an early retirement without overburdening your assets or requiring you to tap into your Social Security too early. It is much more measured approach set to benchmarks which means, if you approach a phase in better financial condition than you planned, you could either shorten that particular phase or skip it altogether depending on where precisely you are in relation to the ultimate goal. The phase approach also enables you to make the necessary life style adjustments that will make your final transition into retirement feel seamless.

Phase 1: Start your business

OK, you may not have been thinking about starting a business in retirement, but the reality is that most people expect to generate earnings, either from another vocation, part time work, or through their own business. You can never be certain of what type of vocation or part time work you’ll get in retirement, but you can certainly control what type of business you own and operate. By starting a business in Phase 1 (8 to 10 years before the target date), your revenue flow will be established and stable. Plus, everyone could use the extra income while they are working. Think small initially – a home-based business, monetizing a hobby, establishing a consultancy – then grow it gradually.

Phase 2: Convert your home into income

You’ve planned to replace your oversized house with a smaller home in retirement, why not do it early. Sometime around five to seven years out, take your tax free equity proceeds (if you qualify for the home sale exemption) and put it into a deferred annuity. Why an annuity? Well, you can’t dump into your qualified retirement plan, so an annuity will allow your funds to accumulate tax deferred. An indexed or variable annuity will enable your funds to earn market-like returns, and these products include features that can minimize or eliminate your downside risk. Apply the monthly cash savings towards retirement savings or investing in your business.

Phase 3: Begin de-employment

A lot depends on your employment situations, but if circumstances are such that you can arrange a reduced schedule with your employer, you could begin the de-employment process three to five years out from your target date. Some people are able to negotiate an independent contracting arrangement. It would help the process if one of the spouses continued to work full-time in their position to maintain benefits, etc. You can use the extra time to work on your own business.

Phase 4: Retire

You have your business in place as a source of income that will bridge you to your pension or retirement plan withdrawals. You’re retirement assets are now in place. It’s time to decouple.

Convert your deferred annuity into an immediate annuity

This is where you turn your home equity into a constant stream of income that will, initially, bridge you to your Social Security benefits at age 65 or later, and then provide the safety net of income you will need for as long as you live. The first stage of the conversion consists of transferring a portion of your deferred annuity to an immediate annuity. Then elect to receive your guaranteed payments for the number of years until you plan to take Social Security. For example, if you retire early at age 60, and you want to postpone Social Security until age 68, you would elect to receive your payments for 8 years.

Allow the balance of the deferred annuity to accumulate for that same time period. At that time, you can then annuitize it to generate a guaranteed income for life, which will allow you to phase out your business if you so desire.

There are a number of ways to build these phases, and they may include some combination of these or other tactics. The key is to start your early retirement early so your progress can be measured and you have the opportunity to secure your retirement foundation. The annuity is your key to creating stability and certainty in your income no matter how you end up deploying it.

1. Retire. You’ve made all of the necessary lifestyle adjustments. You created an income stream that can bridge you to your pension. And your retirement assets are all in place.

It wasn’t so very long ago that retirement was treated as an afterthought for people who worked for 40 years, collected their pensions and Social Security, and lived a few years in leisure. There really wasn’t a need for retirement planning per se. In fact, retirement planning, as we currently know it, didn’t come into being until the 1980s or 1990s when life expectancies begin to expand. Today, with rising retirement costs, longer life spans, and the need to rely almost exclusively on one’s own assets for income, there is little margin for error in planning for retirement. When we’re talking about securing a comfortable income that needs to last as many as 25 or 30 years, mistakes made early on can be magnified to tragic proportions. It becoming increasing important to avoid the biggest retirement planning mistakes.

Retirement Planning Mistake #1: Not setting clear, meaningful, realistic goals

Everyone understands that they need a target so they know where and how far to aim. It’s a simple exercise to set a target date for retirement and attach an income goal. The problem for many people, is that the goal is just a number and the time horizon seems boundless, meaning they think there’s plenty of time. Without a clear vision of what you want your retirement to look like and then translating your vision into very specific goals and benchmarks, you may find it difficult to muster the motivation or sense of urgency to adhere to a savings plan. If it’s not a priority, it’s likely to be procrastinated. Then the cost of your retirement goals increase.

Retirement Planning Mistake #2: Underestimating retirement costs

The cost of living in retirement has been steadily rising for decades due, in part, to increasing life spans, as well as general rising prices. Most people think that their expenses will actually go down during retirement. But, when you factor in rising health costs, the possibility of caring for aging parents, the possibility of subsidizing struggling children, the possibility of carrying a mortgage into retirement, and the probability of requiring some kind of long term care assistance, your retirement living costs may actually be higher than your working years.

Because we are living a lot longer than previous generations, the cost to stay healthy for a lot longer will consume a big portion of our income and assets. And, while the government has laid down a safety net of sorts with Medicare, which is likely to change for future beneficiaries, it doesn’t go far enough to protect us from critical or long term illnesses.

Retirement Planning Mistake #3: Trying to manage investment performance rather than risk

Sometimes it takes people a while before they figure out that they have absolutely no control over investment performance. No one can predict the future movements of the markets or interest rates. This fixation on investment returns detracts from what investors should be focused on, and that is managing their risks. Why? Because risks are certain, and because risks can be managed. For example, we know that inflation will rise. And, we know that interest rates will rise, and they will fall. You can also say with absolute certainty that the stock market will rise, and it will fall. We can’t be certain of the timing or the duration, but all things economic move in cycles. The newest risk that retirees face today is also fairly certain, and that is longevity risk, or the risk of outliving one’s income. When you combine the risk of longevity with the risk of inflation and the risk of declining markets, you have a compounded risk of dramatic proportions. But all of these risks can be managed and mitigated to reduce their potential impact on your financial future.

The key is to own non-correlating assets and apply certain investments as counterweights to the risks inherent in other investments. For instance, everyone needs to own growth investments such stocks. Because there is a risk of stock prices declining, you should also own investments that move counter to stocks, such as bonds. Also, both stocks and bonds can perform poorly during times of inflation, so we can counter that risk with a portion of our assets invested in gold or real estate. And, because the values of the various assets values will change over time, it is important to keep the counter weights balanced so that any one type of risk is not overly exposed. With this approach, the returns on your overall portfolio will be much more stable and more consistent, which is the absolute key to wealth accumulation.

Retirement Planning Mistake #4: Not knowing where you are in relation to your goal

One only has to look back on the last decade to be reminded that the economy and the markets can change rapidly and that people’s circumstances can also evolve quickly. It is important to think of your retirement plan as a living organism that responds to its environment. And what evolves may not look anything like what you originally envisioned. But, if you take frequent snapshots, you will be able to make the small adjustments needed to keep it on track to your goals. Many people simply continue to save, which is good, but the trajectory of your retirement account can be easily thrown off track if you are not monitoring its progress each year.

Your retirement plan will need to be adjusted to reflect your own evolving needs, priorities, risk tolerance and investment preferences. When done properly with regularity, the adjustments usually amount to minor tweaks. With a clear vision and specific goals you’ll always know where the target is and how close you are.