Five Things to Know When Considering Early Retirement

Retiring in your late fifties or early sixties is entirely achievable — but it asks a portfolio to do several years of work that the usual retirement rules assume someone else is doing. Five issues decide most early retirements.

1. Health insurance before Medicare

Medicare does not begin until 65. Bridging the gap through a marketplace plan, retiree coverage, a spouse's plan, or COBRA is often the single largest new expense in an early retirement budget. Marketplace premium credits are income-tested, which means the way you generate cash flow in those years — Roth withdrawals and basis versus large IRA distributions — directly affects what your coverage costs.

2. Early withdrawal rules

Retirement accounts generally impose a 10% penalty on distributions before 59½, with exceptions. Two matter most for early retirees: the rule allowing penalty-free withdrawals from an employer plan if you separate from service in or after the year you turn 55, and substantially equal periodic payments under Section 72(t), which is rigid once started. A well-stocked taxable account is usually the simpler bridge.

3. A longer sequence-of-returns exposure

A poor market in the first years of withdrawals does lasting damage, because shares sold at depressed prices never recover. Retiring earlier means more years exposed to that risk. Holding one to three years of spending in stable assets, and flexing discretionary spending in bad years, does more for durability than any change in asset allocation.

4. Social Security and pension timing

Stopping work early reduces the earnings that feed your highest-35-years calculation, and claiming at 62 permanently reduces the benefit. Frequently the better plan is to retire early and still delay Social Security, funding the gap from the portfolio — expensive in the short run, valuable as inflation-adjusted lifetime income later.

5. Thirty-five or more years of inflation

A retirement that starts at 58 may need to fund living costs into the nineties. At 3% inflation, costs roughly double in 24 years. That is an argument against a portfolio positioned too conservatively at the start, and an argument for keeping some flexibility — part-time income, a downsizing option, or discretionary spending you can dial back.

The test to run first

Before anything else, build a real budget for the years before 65, price the health coverage, and model a poor market in years one through five. An early retirement that survives that test on paper usually survives in practice.

This article is educational and is not individual tax or investment advice.

Common questions

Can I access my 401(k) at 55 without a penalty?

If you separate from service in or after the year you turn 55, distributions from that employer's plan can be penalty-free. Rolling the balance to an IRA first forfeits that exception, so check before you consolidate accounts.

How much should I hold in cash and short-term bonds?

Commonly one to three years of planned withdrawals. The purpose is not return; it is not being forced to sell equities during a decline in the first years of retirement.

Is it better to claim Social Security early since I stopped working?

Not necessarily. Retiring early and delaying the claim are separate decisions, and funding the gap from the portfolio often buys a larger inflation-adjusted benefit for the rest of your life.

Sources

• SSA — Benefits by Year of Birth and Early Retirement Reductions
• IRS — Tax on Early Distributions
• Department of Labor — Top 10 Ways to Prepare for Retirement