4 Best Practices of Early and Happy Retirees
Tried and True Methods You Can Employ to Make Your Investments Work for You
In a recent article, we discussed the fact that an early retirement is not a dream reserved just for millionaires. There are actually more and more people that are working toward an early retirement, some as early as age 50. It won't be easy, but for those who are disciplined and put together a good, solid strategy, an early retirement is possible. The first step is to start with the basics, which includes getting a clear vision in your mind of what you want your retirement to look like.
For example, are you planning to spend more time with your family and stay close to home, or are you planning to travel the world, try to new hobbies, and be adventurous? Are you planning to move or stay where you are?
Once you have an image in your head of what you want your retirement to look like, it’s time to look at the numbers.You will want to identify the gap, which is the difference between your steady income sources and your monthly spending. This is the perpetual gap you will need to fill, and it is also an amount that will need to be adjusted higher over time due to inflation. In retirement, you want to find a way to structure your nest egg to generate a steady income stream that can fill this gap without actually having to use the money in your investments.
There are a number of considerations that can affect your plan and retirement including whether or not you plan to work part-time if you have a mortgage, healthcare, and taxes.
In addition, there are some important best practices for making smart investments and bringing in additional money by way of appreciation, income, dividends, and interest.
4 Best Practices for an Early Retirement
Remember, retiring early is about more than what you’ve saved in order to prepare for retirement—it’s also about making smart investments even after you’ve retired.
Here are four methods that you can employ to make your investments work for you—just be sure that you speak with a qualified financial advisor first.
1. $1000-Bucks-a-Month Rule. This $1,000-Bucks-A-Month Rule can keep you focused on the future of your retirement as you put money aside today. The rule is simple: for every $1,000 you hope to have each month for retirement, you need to save $240,000. This number comes from the following equation: $240,000 x 5 percent withdrawal rate = $12,000. $12,000 divided by 12 months in a year is $1,000 per month for your retirement. This thousand dollars should be seen as an extra source of income each month. It can be used to supplement your Social Security income, your pension, any part-time work you take on or other sources of income.
2. RIDD (Rent, Income, Dividends, Distributions). This is a great method to implement when planning an early retirement and also comes with a motivating acronym: RIDD. Rid yourself of that 9 to 5 job and the feeling like retirement is too far off to enjoy planning. Broken down, RIDD stands for four things: rent, income, dividends and distributions.
- Rent. This one sounds simple, but the benefits are enormous. Owning a rental property is a source of income that you can rely on in retirement. If you’re renting a property you own for $1,500 a month, you’re pocketing that money. Remembering the $1000-Bucks-a-Month Rule with this method can make early retirement seem even more attainable.
- Income, dividends, and distributions. These three things work together: income from bonds, dividends from stocks, and distributions from investments that are neither bonds nor stocks. Depending on how much weight is in each category, an income producing portfolio should be able to produce an annual “cash flow” in the 4 to 5 percent range. Early retirees should plan on withdrawing around 4 percent each year. So imagine that you have $1,000,000 total in your investments. You’ll be able to withdraw $40,000 a year to add to your rental property income.
3. Rule of 72. While saving in any way is important, it’s helpful to know that putting the money you won’t touch for a while (such as your retirement funds) into investments rather than a savings account can help grow your future income. With the Rule of 72, you can calculate how long it will take your money to double in an investment with a fixed interest rate.
By dividing 72 by the annual rate of return, investors can get a rough estimate of how many years it will take for the initial investment to increase 100 percent. For example, the Rule of 72 states that $1 invested at 10 percent would take 7.2 years (72/10 = 7.2) to turn into $2. No one gets rich overnight, but keeping this rule in mind can help you understand how long it will take to see a double return on your investments.
4. Bucket system. The bucket system is another great savings method that can help you see where your liquid investments are going and what they’re doing to help your retirement.
- Bucket one. Bonds—Income—Contributions to this bucket are invested in various types of bonds—Treasury, corporate, municipal, high yield, TIPS, international and floating rate. They will provide you with steady interest income. A well-diversified bond portfolio should protect your principal as well. To maximize your return over time, you have to diversify within this bucket.
- Bucket two. Stocks—Growth—This bucket will hold different stocks for people in different stages of life. If you’re under 60 and still working, you should consider owning growth stocks. These are shares in companies that have large growth rates, but usually, they don’t pay significant dividends. Their focus is on capital appreciation through revenue growth.
- Bucket three. A variety of Investments—Alternative Income—This is the smallest bucket of the three. It holds investments that don’t fit neatly into either of the above buckets. For example, this bucket holds investments in energy royalty trusts (publicly traded oil and gas trusts), real estate investment trusts, preferred stocks, and MLP stocks (pipeline and energy storage companies). These are traded like normal stocks on the open exchanges, but they don’t pay traditional dividends or interest—they pay distributions.
Remember, planning for an early retirement doesn’t mean you should focus solely on the stress of the financial aspect. Retiring early should be a goal that you’re happy to work towards so you can enjoy your retirement.
Disclosure: This information is provided to you as a resource for informational purposes only. It is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal. This information is not intended to, and should not, form a primary basis for any investment decision that you may make. Always consult your own legal, tax or investment advisor before making any investment/tax/estate/financial planning considerations or decisions.