What steps can individuals take in their twenties to set themselves up for a successful retirement? How important is it to prioritize contributions to retirement accounts early in one’s career? What advice does Suze Orman provide regarding savings and emergency funds for those considering early retirement?
You’ve worked hard ever since you got that first job as a teenager. Over the years, you’ve gone from scooping ice cream to leading project teams, and you’ve built a solid financial foundation. As you’ve climbed the career ladder, you’ve worked toward a core goal: retiring early.
Now, you’ve reached a point in your career where you can start planning that early retirement. While you’re likely working with a financial advisor, you may also be wondering what some of the most well-known financial experts recommend. Suze Orman, best-selling author and personal finance expert, is a strong advocate for strategic retirement planning.
Unsurprisingly, Orman advises setting up a few key accounts now to ensure you’re financially prepared for your retirement. This may seem like a no-brainer, but how many twenty-something professionals truly prioritize their retirement accounts? And how common is it for people in their 30s and 40s to contribute less than they could to their 401(k) plans or IRAs? Orman wants you to focus on these accounts as early as possible.
She strongly recommends that people in their 20s start by saving at least 15% of their income in a retirement account. “Someone who starts saving 15% of their income by age 25 and keeps at it, will be in good shape decades from now,” she wrote.
Orman doesn’t expect that people at the very start of their careers will be able to max out contributions to their 401(k), traditional or Roth IRA. However, if you’re serious about retiring early, once you’re established in your career, you should prioritize maxing out those accounts every year.
If there’s one account you’ll need regardless of where you are in life, it’s an emergency fund. That account becomes even more critical in retirement when you no longer have a steady paycheck. Having a well-stocked emergency fund now can also keep you from having to dip into your retirement savings or deviating from your early retirement plan.
Orman wants you to put your emergency savings in a high-yield savings account. These accounts allow your money to grow through interest while still keeping it easily accessible. Best of all, unlike retirement accounts, you won’t face penalties if you need to take any money out.
She also suggests setting up two separate emergency fund accounts: one for predictable expenses and another for unexpected financial shocks.
3 Accounts to Put in Place as You Plan Your Early Retirement
Retiring early is a dream for many, but achieving that dream requires careful planning, discipline, and the right financial tools. To ensure you have the resources you need to enjoy your golden years while maintaining financial security, setting up the right accounts is crucial. Here are three essential accounts to consider as you plan your early retirement.
1. Individual Retirement Account (IRA)
What It Is:
An Individual Retirement Account (IRA) is a tax-advantaged investment account designed to help individuals save for retirement. There are two primary types: Traditional IRAs and Roth IRAs.
Why You Need It:
A Traditional IRA allows your money to grow tax-deferred, meaning you won’t pay taxes on the earnings until you withdraw them in retirement. On the other hand, with a Roth IRA, you pay taxes on your contributions upfront, but your withdrawals during retirement—including contributions and earnings—are tax-free. This can be particularly advantageous if you anticipate being in a higher tax bracket later in life or if you plan to retire early.
How to Maximize It:
Contributions to an IRA are limited by the IRS each year (for 2023, the limit is $6,500 for those under age 50, and $7,500 for those 50 and older). To maximize your IRA, consider:
- Starting Early: Open an IRA as soon as possible to benefit from compound interest.
- Contributing Regularly: Set up automatic contributions to ensure you consistently fund your account.
- Diversifying Investments: Within your IRA, consider a diversified portfolio of stocks, bonds, and mutual funds tailored to your risk tolerance and retirement timeline.
Conclusion:
An IRA is fundamental for any retirement planning strategy, especially for early retirees, providing tax advantages that can enhance your financial situation in the long run.
2. Health Savings Account (HSA)
What It Is:
A Health Savings Account (HSA) is a tax-advantaged account that allows individuals to save for medical expenses while enrolled in a high-deductible health plan. HSAs offer triple tax advantages: contributions are tax-deductible, the account grows tax-free, and withdrawals for qualified medical expenses are also tax-free.
Why You Need It:
Healthcare can be one of the most significant expenses in retirement, especially if you retire before you qualify for Medicare at age 65. An HSA can help you build a health care "nest egg" to cover medical costs without dipping into your retirement savings.
How to Maximize It:
To make the most of your HSA:
- Contribute the Maximum Amount: For 2023, individuals can contribute up to $3,850, and families can contribute up to $7,750. If you’re 55 or older, you can add an additional $1,000.
- Invest Your HSA Funds: Many HSA providers offer investment options that allow your funds to grow over time. This can increase the amount available for healthcare expenses in retirement.
- Use It as a Long-Term Savings Tool: If you can afford to pay for medical expenses out-of-pocket, consider letting your HSA grow. You can always reimburse yourself later for qualified expenses.
Conclusion:
An HSA is an invaluable tool for early retirees. By preparing for future healthcare costs now, you can ease your financial burden later and keep your retirement savings intact.
3. Taxable Brokerage Account
What It Is:
A taxable brokerage account allows you to buy and sell a variety of investment products, including stocks, bonds, and mutual funds. Unlike tax-advantaged accounts, these do not have contribution limits or withdrawal penalties.
Why You Need It:
If you aim to retire before the age of 59½, you may face penalties for early withdrawals from certain retirement accounts. A taxable brokerage account offers greater flexibility, allowing you to access your funds without penalties while still allowing for investment growth.
How to Maximize It:
To ensure your taxable brokerage account works for you:
- Strategize Your Investments: Since capital gains tax applies to earnings, be mindful of when you sell investments. Consider holding onto investments longer to benefit from lower long-term capital gains tax rates.
- Use Tax-Loss Harvesting: This technique involves selling investments that have lost value to offset capital gains in other investments, reducing your overall tax liability.
- Diversify Your Portfolio: A well-balanced portfolio can help mitigate losses and provide consistent returns. Continuously review and adjust your investment strategy in response to market changes.
Conclusion:
A taxable brokerage account complements your retirement strategy by providing liquidity and flexibility, making it a valuable asset for early retirees needing immediate access to funds.
Final Thoughts
Planning for an early retirement is an exciting yet challenging endeavor that requires a comprehensive approach to financial management. By establishing an IRA, HSA, and taxable brokerage account, you can create a robust financial foundation that supports your goals and lifestyle in retirement. As you set out on this journey, prioritize disciplined saving, prudent investing, and strategic planning to turn your dream of early retirement into a reality. Remember, the earlier you start, the better prepared you’ll be to enjoy the life you want when you eventually retire.
Planning for early retirement involves careful consideration of your financial landscape. Here are three essential accounts to consider setting up as you prepare for this significant life transition:
401(k) or Employer-Sponsored Retirement Accounts: If your employer offers a 401(k) plan, it’s crucial to take advantage of it, especially if they provide matching contributions. This account allows you to contribute pre-tax dollars, which can grow tax-deferred until retirement. Some plans also offer a Roth option, enabling tax-free withdrawals in retirement. Maximize your contributions to benefit from compound growth over time.
Individual Retirement Account (IRA): An IRA is another powerful tool for retirement savings. You can choose between a Traditional IRA, where contributions may be tax-deductible, or a Roth IRA, which allows for tax-free withdrawals during retirement. If you plan to retire early, a Roth IRA can be particularly advantageous, as you can access your contributions (but not earnings) without penalties after five years. IRAs have lower contribution limits than 401(k) plans, but they can still significantly boost your retirement savings.
- Health Savings Account (HSA): While primarily intended to cover qualified medical expenses, an HSA can serve as a valuable retirement account due to its triple tax advantage—contributions are tax-deductible, growth is tax-free, and withdrawals for qualified medical expenses are tax-free. If you have a high-deductible health plan, consider contributing to an HSA. After age 65, you can withdraw funds for any purpose without penalty, although non-medical withdrawals will be taxed.
In summary, establishing a 401(k) or employer-sponsored retirement account, an IRA, and an HSA can significantly enhance your financial security as you approach early retirement. Each of these accounts offers unique benefits that can work together to help you meet your retirement goals effectively.