Early Retirement Planning Considerations
Rose, Clarence C., Larimore, L. Keith, The National Public Accountant
Making early retirement a positive experience requires knowledge of a wide range of financial areas. The effects of early retirement on Social Security benefits, employee pension benefits, health insurance coverage, and current investments and savings should be carefully reviewed prior to making the decision to retire. While U.S. workers continue to follow their desires to retire early, the statistics available from the Social Security Administration (1) and private research studies on retirement planning (2) indicate that the majority of U.S. workers are not financially prepared for retirement. People are living longer and, at the same time, more and more workers opt for early retirement without the resources needed to generate sufficient retirement income. This article explores some basic financial planning considerations for early retirement.
Meeting Retirement Income Needs
Early retirement, or retirement at any age, may be less than an enjoyable experience without sufficient income. Generally, financial planners recommend that an individual should strive to maintain 70 percent to 80 percent of his or her final working year's income during retirement and have made provisions to increase income in retirement to keep up with inflation. A small but growing number of financial planners recommend that individuals should strive for 100 percent or more income replacement during retirement years. (3) The logic behind this recommendation is that individuals tend to spend more money when they have time to do what they would like to do. In planning for retirement at any age, the first task is to determine the income desired in retirement and examine how those income goals will be met. The exact amount of income that an individual needs in retirement is specific to each individual's financial circumstances and goals. For example, an individual or couple with a home that is paid for would li kely spend less on housing in retirement than an individual or couple who are still paying off their home or renting.
Financial planners generally suggest that an individual's retirement plan include at least three important sources of retirement income. These sources usually include Social Security benefits, personal savings/investments, and employer/employee retirement accounts, such as defined benefit plans, 401(k)s, 403(b)s, and IRAs. Of the aggregate income received by retired Americans, Social Security benefits consist of 42.5 percent; individual savings and investments generate 36 percent; and employer/employee retirement benefits make up 21.5 percent of retirement income. (4) The anticipated income from each of these sources should be carefully examined prior to making the decision to retire.
Social Security Retirement Income
According to the Social Security Administration, 60 percent of U.S. workers elect to begin Social Security retirement benefits at the youngest eligible age, 62. Up until the year 2000, opting for early retirement at age 62 meant a 20 percent reduction from the amount received for full Social Security retirement at age 65. The full retirement age began to gradually increase in the year 2000; it will reach age 67 in the year 2027. The earliest retirement age for Social Security remains at 62, but the reduction in benefits for early retirement will gradually increase to 30 percent by the year 2022. (5)
If U.S. workers continue to retire early, aggressive retirement planning is even more essential in light of the scheduled reduction in benefits from Social Security for early retirement. Table 1 lists the scheduled Social Security early retirement reduction. Once an individual elects to begin receiving Social Security early retirement benefits, the reduction in benefits is permanent.
Another aspect of Social Security to consider is the retirement benefits for the retiree's spouse. Spousal benefits are typically calculated as a percentage of the primary wage earner's benefits. …