Retiring early is a dream for many individuals, but knowing how to retire at 50 escapes many. To be able to take a step back either partially or fully from traditional employment or a job and enjoy these years of your life is obviously something most desire. Unfortunately for many, by the time they have enough money to retire (or don’t have enough money, but just have reached social security age), they are more advanced in age and some of the lifestyle things that they could have enjoyed in their 50s aren’t as easy in their late 60’s and 70’s.
So, it’s no surprise that the discussion around how to retire at 50 is a popular one. While the FIRE movement revolves mostly around younger people trying to find ways to travel and skate past traditional employment, retiring at 50 is an idea that many “normal” people would love to achieve. Is it possible? Is it practical? What are the risks? These are all important questions regarding retirement at 50. In this article, we’ll look at how much money you need to retire at 50, some tips for putting more money away to prepare for retirement, and walk through a number of other important considerations regarding retiring at an earlier age than traditional the traditional retirement age.
Do you have enough money?
So how to retire at 50? Well, the simplest answer is you have enough money to fund your estimated lifestyle. This requires you to get a good feel for what your estimated costs will be. Retiring earlier than traditional retirement age will mean you won’t have social security income yet, you won’t qualify for Medicare and you’ll get penalized for tapping a 401(k) plan. So, retiring at 50 is harder than retiring at 65, not just because you have to fund more years of retirement, but you won’t have access for a number of years to several key retirement benefits that many retirees rely on. This will have to be factored into your retirement plans.
Now, on the flip side, one of the things that can come out of your budget is saving money. If you’ve been working for 30 years and you’ve been saving 15% of your income every year, then that 15% is no longer required. You’re no longer earning money and you’re no longer saving money. You’re only spending money, and you need to simply map out your spending.
To determine if you have enough money, you need to add up your expenses. You should include everything such as housing, health care, automobile, grocery, entertainment, travel, clothing, etc.
Average returns vs. sequence of returns and market luck
Too often in retirement planning, simple calculations are made regarding average market returns over a long period of time. For example, you’ll hear things such as “The market returns on average 7% a year. I only need to withdrawal 4% a year from my portfolio. Therefore, I’m in very good shape to go ahead and retire.” Unfortunately, too few individuals truly understand that this is a really dangerous line of thinking as you approach retirement.
Why? Let’s explain why this is extremely risky. First, while average stock market returns are typically accurate in and of themselves, the reality is that you don’t incur the average return every year. If the market averages 7% a year, you might gain 30% one year, 10% one year, -25% another year, etc. Average returns are very relevant when it comes to the accumulation phase of retirement savings (when you’re working, earning income, and saving money). Average returns explain why investing continually over time regardless of where the market is is typically a good idea during accumulation phase. Unfortuntaly, during retirement, you’re not only not accumulating funds for retirement, you’re drawing upon them, depleting them. And this is the crucial point.
Because you are withdrawing funds on an ongoing basis during retirement to fund your lifestyle, average returns no longer really matter. Instead of average returns, we need to consider the sequence of returns. And this is where market luck comes into effect in a big way. If you’re lucky enough to have a serious bull market immediately after you retire, this benefits your retirement calculations in a significant way. However, if the opposite happens and a bear market materializes right after you retire, your retirement calculations are going to be negatively affected big time and your risk of running out of money during retirement goes way up.
The sequence of returns refers to the timing of stock market returns. If you have very good years in the market early on in your retirement, it will help your funds last longer. If you have very bad years in the market early on in your retirement, the risk of running out of money goes up dramatically. Why? Because if your funds lose value due to stock market declines AND you are withdrawing money during this time to pay things like your mortgage, food, healthcare, etc., then you’re creating permanent losses in your retirement funds that you don’t get back even if the market bounces back significantly. This is why average returns over time are very, very deceptive to retirees.
During accumulation phase, we often praise the principle of dollar cost averaging. When investments go down, who cares, because we’re just buying shares at lower prices. Over time, the markets recover, and the lower shares have gained even more. We know average returns mean we’re safe to keep investing. However, during retirement when we are withdrawing money, it’s an opposite effect and it’s extremely damaging to ensuring we don’t run out of money in retirement. We can look at some specific examples to demonstrate this principle more clearly.
Example 1: John invests $1000 per year in stock XYZ. Shares right now are $10 each. The next year, due to a bad market, the shares go down to $5. Then each year, the shares go up $2 as the market recovers and eventually goes higher than the original $10 level. Let’s look at the overall investment activity and the end result.
When we’re accumulating shares and building our portfolio, a blip in the market isn’t a big deal. You can continue to invest the same amount during each time period, and if the market is down, you just buy more shares. Those shares get to participate in the future rebound. As you can see when the market takes a dip, and the shares go to $5, the same investment then results in 200 new shares being purchased. As the stock rebounds and climbs in the years ahead, the portfolio benefits from having picked up more shares at a lower price.
Now, the dollar cost averaging effect of investing over time is well known. But we show this in order to contrast against the next example. The dollar cost averaging benefit is essentially flipped when you’re having to sell shares to fund retirement. Let’s look at another example.
Example 2: John withdraws $1000 per year from an account that has $20,000 in stock XYZ. The shares are $10 and follow the same ups and downs as the previous example.
This example demonstrates clearly that when the market is down, you have to sell more shares of your stock to maintain desired withdrawals to fund retirement. When you sell more shares, those shares then can’t participate in the later rebound. Losing a large number of shares early in your retirement as a result of selling more at a lower price to maintain retirement lifestyle can severely hamper portfolio balances over the long run.
We can look further at this concept by contrasting this realistic, bumpy road of stock prices against a steady return (assuming an average return every single year).
Example 3: Now it’s worth noting that stock XYZ went from $10 to $15 in six years time. This is an average rate of return of 6.99%. To demonstrate the sequence of returns risk, let’s look at the difference from example 2 if John is withdrawing $1000 per year from the same account, but instead of the stock following the movement in the previous examples, it will instead just gain 6.99% per year.
Both example no. 2 and example no. 3 have the same starting point and ending point, yet example no. 3 has a much better ending balance. This is because the unlucky sequence of returns in example no. 2 led to a $3,000+ difference in ending balance.
Couldn’t the sequence of returns actually be a benefit? Of course, if you have a huge bull market right when you retire, you can end up with a scenario where the effect is a huge benefit. That’s not the point we’re making. The point is that you don’t know the sequence of returns, and the other point is that you can’t assume average returns even though average returns are commonly cited when predicting whether or not you have enough money to retire. Retirement planning is managing risk. Sequence of returns is a risk that needs to be managed.
So instead of factoring average market returns into the retirement calculations, the better bet is to look at real world stock market scenarios that have materialized in the past. For example, what if you retired in 1901, 1902, 1903, 1904, etc. You can look at what would have actually occurred if you had retired at any specific point in the last 100+ years. Some of those outcomes would have been extremely lucky where you retired right before a massive sustained, bull market. Others, say if you retired right before the crash of 1929 would have been extremely unlucky. Now, the next step here is to look at how many of these 100+ scenarios resulted in running out of money? How many resulted in sustaining your wealth easily? How many were extremely lucky and how many were extremely unlucky? This provides a more realistic picture of your retirement risk whether you retire at 50 or an older age.
Understanding sequence of returns and what the various outcomes would have been in the past gives you a much more solid basis by which to make decisions about whether or not you have enough money to retire.
How much money do you need?
There are many “rules of thumb” when it comes to how much money you need to retire. There’s the 80% rule, the 4% rule, the 25x expenses, rule, etc. Each of these are variations of attempts to estimate the amount of money needed to cover your expenses over a prolonged period of time. Let’s look at each briefly.
The 80% rule states that you need 80% of your earned income during retirement. So, if you’ve been earning $100,000 a year for a while, you need enough money to be able to pull out $80,000 a year on a sustainable basis. If you’re old enough to pull out social security, then this can contribute toward that $80,000 and then you might not need as much money in your personal retirement funds.
The 4% rule is a commonly cited rule of thumb that states you can pull out 4% of your retirement funds safely each year. This is built around the concept of a safe withdrawal percentage. Many financial planners use the 4% mark as a safe withdrawal percentage and therefore it’s commonly referenced. It’s a decent starting point, but as we’ve already established, sequence of returns risk can throw off the sustainability of this percentage. There are previous runs in the stock market that would have led retirees to run out of money early while withdrawing 4%. However, if you want to use this rule to determine how much money you need (again, a valid starting point for planning purposes), you can determine how much money you need on an annual basis then divide by .04. For example of if you need $75,000 per year, you divide it by .04. $75,000 / .04 = $1,875,000. You would need $1,875,000 to return based on the 4% rule.
Conservative planners might want to give themselves a margin of error by assuming 3.5%, 3% or even lower when planning. Here are some examples of different withdrawal rates based around the same need of $75,000 per year in retirement.
Again you can run your own calculations by using this formula: Annual Needs / Withdrawal % = Retirement Funds Needed. Most financial professionals would not suggest using a withdrawal percentage above 4%, and using one below it might be especially wise.
The 25x expenses rule is similar to the 4% rule. In fact, the calculations are the same. The idea is that you need 25 times your annual expenses in retirement funds. If you need $75,000 each year in retirement, then $75,000 x 25 = $1,875,000 (the same value in the previous rule of thumb). Conservative retirees might prefer a 30x expenses rule to ensure a margin of safety. If you need $75,000, then $75,000 x 30 = $2,250,000 in retirement funds.
You’re limited on 401(k) withdrawals until a certain age
Because of the tax advantages that come with investing in a 401(k) plan, if you withdraw money from the account before the age of 59 1/2, you will face a 10% early withdrawal penalty in addition to paying income taxes on the money. So if you plan to retire at 50, you’re going to have to tap funds outside of your 401(k) account.
Note that there are a few exceptions to the early withdrawal penalty rules such as disability, certain levels of unreimbursed medical expenses and even certain circumstances surrounding getting laid off from a job. Before you go ahead with early withdrawals, make sure you understand the IRS rules thoroughly or talk to a professional who can assist.
Medicare doesn’t kick in until 65
A major retiree benefit is Medicare, but you can’t access it until you’re 65. That means if you plan to retire at 50, you’ve got to self fund your health care expenses and your insurance for 15 years. Since health care is a major cost component during retirement, make sure you analyze the costs and options thoroughly.
You can’t get social security until 62
Social security payments are extremely beneficial in making the math work on retirement funds calculations. If a chunk of your annual needs are provided by the government through social security, it means requiring a lot less retirement funds of your own. However, retiring at 50 means that you have a minimum of 12 years before you can start taking social security funds.
It’s also worth noting that if you begin taking payments at 62, you’re only getting 75% of the potential social security benefit you’ve earned. If you wait until 66, you’ll earn 100% of the benefit.
Managing risks and unforeseen events
In the event of a major unforeseen expense or maybe a major market move lower, the risks to your retirement status can be compromised, but it’s not the end of the world. You do have ways to mitigate these unfortunate scenarios. The main method to do so is to alter your lifestyle temporarily. Since retirement is essentially nothing but managing your life’s costs (and maybe managing your investments), your main lever that can affect the long-term math of sustainable retirement is lifestyle alterations. We’ve all been there and know what it looks like to cut back temporarily.
You can successfully manage the sequence of returns risk outlined above using this approach. If you’re unlucky and the market dives 30% early on in your retirement, the main way you can whether this storm is to reduce the withdrawals on your funds during the market downturn. By reducing the withdrawals, it reduces the permanents losses that your portfolio incurs. As the market rebounds over time, you can phase in withdrawal increases to get back to your previously established withdrawal level.
Another strategy for managing retirement risk can be an annuity. With annuities, you essentially hand over a chunk of money and you have a guaranteed income stream from then on. For individuals who can’t handle market ups and downs or aren’t good at managing their lifestyle, this can sometimes be a decent option. You can take a look at various annuity calculators (here is one), but by and large, if you’re 65 or so, you can purchase a $500,000 annuity and be guaranteed something in the range of $2300-2500 per month of income.
There are two scenarios where this can make sense. First, if your retirement funds are borderline in terms of being able to provide sustainable income for a sufficient amount of time during retirement, you can essentially remove the investment risk and simply focus on managing lifestyle with respect to the annuity cash flow amount (plus any other income such as social security). If you’re at risk of running out of money, the annuity ensures you won’t run out of money. You just might have to reduce lifestyle expectations.
The other scenario where this can make sense is by utilizing an annuity in combination with other retirement assets. Some retirees choose to use an annuity to cover the core life expenses such as housing, food, auto, health care, etc., then have retirement assets that are relatively untouched or only tapped into later on or maybe for other extraordinary situations. This combination can work because the annuity ensures your regular expenses are covered indefinitely, and your investments provide long-term upside and/or future money to pass down to kids.
How to retire at 50 (examples)
Let’s look at some specific examples with various amounts saved in retirement funds.
How to retire at 50 with $750,000 in retirement funds
Retiring at 50 means that you should have confidence in your financial position for at 35+ years. This is a fairly long span of time, and the average middle class American might have a hard time funding retirement for such a duration with only $750,000 in assets. I don’t want to say it’s impossible, because some individuals are used to a much lower cost of living and don’t need nearly as much as the common American middle class consumer.
This situation is also further enhanced if you live in a house that is paid off. It’s hard to overstate how helpful it is to the retirement math if you are no longer paying for housing. This should be a goal of everyone approaching retirement age.
With the caveat that we understand some individuals would kill to retire with $750,000 in retirement funds, we’re going to proceed with the understanding that this is actually not an extraordinary sum especially when considering retiring early at the age of 50.
According to the Schwab annuity calculator, an individual who is roughly 50 that purchases an annuity for $750,000 can expect to receive roughly $2,900 per month in income for life. This is a decent option for an individual at 50 since the potential to exhaust retirement funds is likely too much to risk. So, this individual will need to manage lifestyle accordingly with the parameter of $2,900 per month in income. Health care will likely take up a decent chunk of this money. When the person hits social security age, the income will go up. When the person hits the age for Medicare, the expenses will go down. It’s do-able, but money will be fairly tight for a decade or so.
How to retire at 50 with $1,000,000 in retirement funds
Similar to the previous example, this person could get annuity income of approximately $3,800 per month for the remainder of his or her life. Income will go up upon hitting social security age, and expenses will go down when health care can transition over to Medicare. Whether or not $3,800 per month in income is sufficient will depend on your situation. It’s certainly possible.
The other option might be to do a split between annuity and investments. Let’s say we do a $500,000 annuity to ensure guaranteed income to cover some core expenses, then $500,000 in standard investments along with a conservative withdrawal rate. While we know many recommend 4% withdrawal, we’re going to go with a more conservative 3% withdrawal rate especially since we’re retiring early! This money needs to last several decades! Let’s look at the results.
The $500,000 annuity would pay out roughly $1900 in income per month. Then a 3% withdrawal rate on $500,000 would result in $15,000 a year or $1,250 per month. While this person is receiving less income per month based on these parameters, this person also has the upside of the investment account growing. With a conservative 3% withdrawal rate, it’s very possible that over time and with discipline regarding withdrawals, that this $500,000 grows into more money. This provides the retiree with flexibility in that they can adjust future withdrawals, or it provides them with assets that can be passed down to other family members upon death.
How to retire at 50 with $1,500,000 in retirement funds
For some, achieving a sum of $1,500,000 in retirement funds is game over. You’ve won. You’re done. For others, it’s just the starting point for retirement savings. It just depends on your point of view. Either way, we’re probably out of the range where an annuity is recommended unless the retiree is ultra conservative and wants SOME guaranteed income that is not attached to market fluctuations. In this scenario, maybe the retiree puts $500,000 in an annuity and the other $1 million in investments. You can do the math for this similar to the previous example. However, now we will just look at having this money in investments.
How to retire at 50 with $2,000,000 in retirement funds
For many, having a sum of $2,000,000 would result in immediate retirement especially if your house is paid off. Here is your retirement income examples based on withdrawal rate.
How to retire at 50 with $3,000,000 in retirement funds
Similarly, here are the withdrawal examples with a sum of $3,000,000 in retirement funds.
How to maximize your chances of success
Succeeding in retirement is essentially covering your expenses, having a little extra money for fun, being able to spend the majority of your time doing what you love, and having little or no risk of running out of money. How can you maximize your chances to achieve this? Here are a few tips:
- Pay off your house. In addition to amassing retirement funds, it can be a really good idea to pay off your house. Housing is one of the major expenses whether you are retired or not. Taking that item out of your expense list that takes a chunk out of your regular retirement income can do wonders for making the retirement math work. Of course you’ll still need to pay property taxes, insurance, maintenance, etc., so it’s not like your housing related expenses are zero. Kill that mortgage though and the numbers get a lot prettier! This shouldn’t need to be said, but obviously any consumer debt is a no-no going into retirement.
- Get used to the retirement lifestyle before you actually retire. If you’re going to have to reduce the lifestyle in order to fit the projected income levels, then start doing that before you pull the trigger. This will not only help with the shock that may come with a lifestyle reduction, but it might give you some wisdom as to whether or not it makes sense to actually retire early (at age 50 or so). This can also give you the confidence needed that you can adjust lifestyle if needed when unforeseen expenses or market downturns may hit during your retirement years.
- If you really plan to retire at 50, get hardcore in your last working years with respect to saving money. Retiring at 50 is relatively extreme when you consider what most people are doing, so you need to get extreme with your saving. If you’re in your mid 40’s targeting a retirement at age 50, then spent those late 40s socking away as much money as possible. You’ll thank yourself later.