Retiring Early: One way to avoid the 10% early withdrawal penalty tax

Posted on June 8, 2012August 24, 2018

You might have heard that you need to keep your money in your retirement accounts until you are 59½ in order to avoid the 10% early withdrawal penalty tax, but did you know that if your money is in a work retirement plan, like a 401(k), that the you can take it out earlier and still avoid the penalty?

Exception to the rule

To quote directly from the IRS website explaining this exception to the 10% early withdrawal penalty tax:

“Distributions made to you after you separated from service with your employer if the separation occurred in or after the year you reached age 55, or distributions made from a qualified governmental defined benefit plan if you were a qualified public safety employee (State or local government) who separated from service on or after you reached age 50”

55 and separation from service

If you wait until the year you turn 55, then leave your employer, you can take money out of your 401(k) or 403(b) without the 10% early withdrawal penalty tax. You will still pay income taxes of course; Uncle Sam wants that part of your retirement account. And be careful, depending on the other income you have, the amount of income taxes you owe could be even more than has been withheld, so be sure to calculate quarterly estimated taxes so that you are not caught by surprise.

If you roll your 401(k) over to an IRA rollover account, you lose this “age 55 separation from service” exception, because it only pertains to employer plans, not IRA rollovers.

50 if you are a fireman or policeman

If you are a qualified public safety employee of the state or local government, such as a police or fireman, the age is even lower – 50 years old.

Retire early?

In general most folks need to work and continue saving their money until their mid to late 60s so that they can save enough to retire. But for those that have been strong savers and have learned to live well beneath their means, an early retirement is a possibility.

For a lot of folks who retire as early as 55, they have resources besides retirement accounts that they tap into, for example; from the sale of a business or money they have put into regular brokerage accounts over the years after they put the maximum contributions into their retirement accounts. If you don’t have money in non-retirement accounts that can get you through to age 59 ½, then the “age 55 separation from service” exception might be the solution for you.

Run the numbers

Only in a few situations would it make sense to tap into the retirement accounts as early as 55 years old. One situation that comes to mind, is in the case of someone who has maxed out their contributions in their work plan since the time they started working, and they have a balance in their current employer’s retirement plan that is large enough to live off of for a four or more years. They have run the numbers and have enough retirement assets to live off of, however they do not have enough in non-retirement accounts to live off of until they turn 59 ½, perhaps due to putting kids through college or paying off the mortgage.

Really check your numbers to make sure that you can afford to retire at 55, taking the impact of inflation into account. Inflation has a significant impact on retirement planning. Consider that starting to spend down your portfolio at such a young age, when you could easily live another 35 or 45 more years could jeopardize your financial future. However, if once you have done the analysis you can afford to retire early, then you deserve to enjoy what you have worked so hard for and this “age 55 separation from service” exception to the 10% early withdrawal penalty tax is one way to help you do that.

Financial Doing: Because if it’s just Financial Planning, it will never happen!

Posted on June 1, 2012October 1, 2018

I have a theory that just about everyone has important financial To-Do items sitting on their To-Do list. However, those financial To-Dos often just sit there because there isn’t a looming deadline to make them seem urgent (“Save for college and retirement? Oh that’s so far away!”). You can read more about my philosophy in It’s on your To-Do. Let’s get it To-Done!

Let’s say you decide to address those To-Do items so you create a financial plan. Well a plan will not help you if you do not implement it! So let’s take you from Financial Planning to Financial Doing! For those of you who have taken the step of creating a plan, I would like to give you some easy things to do so that you can get some momentum going on your path to Financial Doing!

Here are some quick things you can do and knock off of your To-Do list…

Social Security

If you are under 60 years old, the government does not mail you a Social Security Benefits statement any more. Learn how easy it is to pull up a copy of your statement online in my blog post Full Social Security Statements Now Available Online.

Annual Credit Report

You know you should get your free copy of your credit report each year, but with so many advertisements you aren’t sure where to go. I clear up the confusion in my blog post Annual Credit Report: Where to go to get your free credit report.

Lost Money

This one is just a “no brainer”; it takes only a few seconds to check to see if you have lost money. One in ten Missouri residents does. Are you one of them? Missouri Unclaimed Property: Are you due some money?

Take the first step today to change your Financial Planning to Financial Doing, I promise, it will feel great to finally start attacking the To-Dos!

Retirement Planning: Easy Access to Your Social Security Retirement Benefit Estimates

Posted on April 27, 2012August 24, 2018

You haven’t lost it – you didn’t get it! Your Social Security retirement benefit estimate statement has not been mailed to you because the government is trying to save money.

But you can still get the information. Just go to https://www.ssa.gov/benefits/retirement/estimator.html and click on the button in the center of the page that says Estimate Your Retirement Benefits.

You will need very basic information such as name, date of birth, social security number, mother’s maiden name, and the state in which you were born.

Your Retirement Benefit Estimate will come up; it will give you the estimated benefit amount for:

1) early retirement at age 62

2) at your Full Retirement Age, which depends upon your date of birth

3) delay starting benefits until age 70

Click on the Save/Print button at the bottom.

It is very easy to do; it took me 3 minutes and 53 seconds from start to printout in my hand.

Social Security income is one factor of many when collecting data for the retirement planning process. If your situation has some complexity due to divorce, remarriage, etc., and you are nearing retirement, I encourage you to make an appointment with the St. Louis Social Security office to get your specific retirement benefit payments.

Retirement Planning: Inflation and the Jetson’s car

Posted on March 30, 2012March 30, 2012

When I teach retirement income planning classes I love to ask attendees to jot down how much they paid for their first house, then I ask them to write down how much they paid for their last car. While I don’t ask them to share these numbers with the class, it does start a lot of discussion. And laughter. What usually comes out of this exercise is the fact that most of the retired folks in the room paid more for their last car than they did for their first home!

Inflation takes quite a toll on the wallet. We notice this happening as the price of items rise and rise over the years; milk, gas, property taxes and, as in the example above, cars.

If you set up house at the age of 22 and retire at the age of 65 that is a span of 43 years. That gives you 43 years to earn income and invest for the future.

If you retire at the age of 65 how long do you want to plan for in retirement? Do you plan for 90 years old? 95? 100? Depending on your age, gender, health, and longevity in your family, retirement can last 25, 30, 35 or more years!

And if you plan on retiring early, you might be retired for as many years as you worked!

Let’s say you finish college at 22 and work until you are 62; you worked 40 years. If you live to 102, you would be retired for 40 years.

If you think inflation is a challenge while you are in your earning years, imagine what it is like during retirement when you are tapping into the portfolio that you created for retirement.

Here is some food for thought. Let’s take the car example from above and see what type of impact inflation has on car prices during your retirement years.

Last year and the first two months of this year, the Toyota Camry was the best-selling car in America. The 2012 Toyota Camry LE model has a base MSRP of $22,500 in today’s dollars. Not the least expensive model, the L, but not the more expensive models, SE or XLE, either.

Let’s use an example of a 55 year old who is thinking of replacing their car every seven years in retirement. If the car sells for $22,500 now and inflates at 3% a year, they want to know what a Toyota Camry LE would cost at the following ages:

At 65 years old a 2022 Toyota Camry LE is estimated to be $30,238
At 72 years old a 2029 Toyota Camry LE is estimated to be $37,189
At 79 years old a 2035 Toyota Camry LE is estimated to be $45,738
At 86 years old let’s assume they are still driving, not as much as they used to, and mostly during the day, but their family insists that they have a reliable car, so they relent and end up spending $ 56,252 on the 2043 Toyota Camry LE.

If they maintain the car well and don’t put a lot of miles on it, they could look to knock off a quarter to a third of the price with a trade in if they are trading in every seven years.

What if your tastes run more toward Lexus than Camry? Let’s look at this example with the 2012 Lexus GS (again not the most expensive model, nor the least expensive) with a base MSRP of $46,900 in today’s dollars.

Let’s use the same example of a 55 year old who is thinking of replacing their car every seven years in retirement. If the car sells for $46,900 now and inflates at 3% a year, they want to know what a Lexus GS would cost at the following ages:

At 65 years old a 2022 Lexus GS is estimated to be $63,030
At 72 years old a 2029 Lexus GS is estimated to be$77,519
At 79 years old a 2035 Lexus GS is estimated to be $95,338
And at 86, in this example as well, they listen to their family and buy a new car so they have a reliable car, making the family feel better. They end up spending $ 117,254 on the 2043 Lexus GS . The good news is, the year is 2043, so it is the Jetson’s edition so it can fly.

In discussing future plans with families, I find that car replacement during retirement years is the most frequently forgotten item when individuals plan on their own. But having read this, you know to factor it in. Many people make the mistake when planning of assuming that they can keep the same car throughout retirement. Keep in mind that you may be retired for almost as many years as you were working. Think about how many cars you owned while working and consider if it would be realistic to have one car for a period approximately as long as that. You will possibly be driving more in the early years of retirement, because retired people are the busiest people I know. They have been putting off all the things they wanted to do; now they get to do them! But the amount of driving does slow down significantly in the later years for most, but not for everyone. Also, consider if you have more than one driver, you may be replacing more than one car in retirement. Forewarned is forearmed! If you haven’t already, be sure to account for car replacement and the inflation of the car prices in your retirement projections.