My Dad is one of the lucky ones. Not because he is incredibly handsome, still has most of his hair and he is still in pretty good health. Those are probably the reasons my mom is one lucky lady.
Instead I consider my Dad one of the lucky ones because he was able to retire in good financial straits in his mid 50’s.
He’ll be the first one to tell you that the decision to retire and begin living off your investments is not an easy one. He was ready to quit working, but he was scared to death of not having enough money.
But he did it. Not only did he retire, but he did it about ten years before the average American worker retires. The average age for retirement keeps going up. Every year the number ticks up. As of 2013 the average age for retirement is 61, that number is expected to jump to 65 very quickly though.
My Dad is pretty lucky to have been able to do that. Although I wouldn’t say it’s because of luck he was able to retire early and quite comfortably. I’d say it’s because he followed all the rules and avoided the mistakes that could have derailed his retirement.
One thing that I think was absolutely crucial to the financial success that he now enjoys is his ability to manipulate the government into giving him larger social security checks every month. The great thing is that every American is eligible to do exactly what he did to receive larger monthly social security checks.
First off I should explain that taking advantage of this loophole doesn’t require anything from you. You don’t have to save more aggressively or hope that the markets do well or take on any risk that could jeopardize your nest egg.
Let me explain how this loophole works. My father was the breadwinner between him and my mother. My mother worked but never made as much money as my father did at any point during their careers. The government allows spouses to collect benefits starting at age 62 as long as the other spouse has filed for social security benefits. But as you know the earlier you file for benefits the more your monthly checks are reduced. Spouses, like my mom, that wait to file for spousal benefits until they reach full retirement age receive about half of what my Dad’s (the higher earning spouse) benefit is.
So far this probably doesn’t sound very ground breaking or financially savvy to you. But wait, it’s what my Mom and Dad did next that netted them a whole bunch of extra money each month from the government. See because my Mom worked and paid into social security during the times she worked she is eligible to receive her own social security benefits, not just spousal support. When my Mom applied for and received spousal benefits she allowed her own benefits to grow until age 70, at which point she would be receiving the highest possible amount of benefits. At this point, my Mom can now switch over to her own Social Security benefits that are higher than the spousal benefits she is receiving. This allows my parents to delay the benefit so it can accrue and grow until age 70 and collect a spousal support as bonus money while they wait.
Here’s an example to help explain. Let’s say my Dad files for Social security and gets $1200 a month. My Mom finds out that if she applies for her own benefits at age 62 she’ll receive $400 a month. If she waits till she’s full retirement age she’ll get $500. Both of which are still less than half of my Dad’s benefit amounts, which she is entitled to if she files for spousal benefits. So she files for the spousal benefits and gets $600 a month for the next few years until she reaches age 70. At that point her own benefits have been left to grow to the maximum benefit amount so she switches to her own benefit, which would be higher since your original $500 a month benefit increased by eight percent a year to $680 a month. Genius! (Make sure you check your inbox next Wednesday for my letter to learn four other social security loopholes like this that can net you thousands of extra dollars a year).
My Dad is also pretty smart when it comes to the taxes he has to pay on the money he earns in retirement. His tax planning strategy has allowed him to keep thousands of dollars out of the government’s hands and in his own pocket!
There are many different types of retirement income accounts one can have; a traditional IRA, a Roth IRA, a 401(k), pension, annuity, as well as social security benefits. Each of which have their own tax penalties and distribution requirements. Social security benefits can be completely tax-free or partially taxed depending on your income level in retirement. The same goes for any pension or annuities you receive. If all contributions to the pension were tax-deferred, then your distribution will be fully taxable. If you contributed some after-tax dollars to fund your plan, then part of your distributions will be tax free. Distributions from a 401(k) and a traditional IRA are fully taxable. Distributions from a Roth IRA are completely tax free though.
Having more than one retirement savings vehicle is a strategy in itself. It’s never smart to tie yourself to just one account. You’ll be forced to take distributions and pay taxes according to what the government wants and not necessarily what’s most financially prudent for you.
My Dad has laddered the accounts he withdraws from so that he is never taking distributions from accounts that are all fully taxable at one time. The strategy here is to take distributions from some accounts that are fully taxed, some from accounts that are partially taxed and some from accounts that are not taxed at all. This way his tax burden is always manageable.
Another thing that makes my Dad pretty smart is that he still maintains an emergency fund. I’ve met plenty of retirees that feel like setting aside a chunk of money for unforeseen expenses was only necessary during their working years. They viewed it as money they would need only if they lost their job unexpectedly. They assumed once they retired they wouldn’t need to keep that fund anymore. I’ve yet to meet someone though, no matter what their age, that didn’t encounter some kind of emergency or unforeseen expense. The first year my Dad retired he had two major events happen to him that required extra cash on hand that he hadn’t planned on spending. First the soft top of his car got stuck in the upright position and wouldn’t come down. He couldn’t very well drive his car around without a roof on his car 24/7 so he had to shell out $600 to get that fixed. Then six months after he moved into his retirement condo in Florida the A/C went out. There went another $350 he had to shell out. He had nearly $1,000 of
planned expenses in the first six months of his retirement!
The best retirement plans are those that have plans in place for the things you can’t anticipate. That means an emergency fund is still a valuable and necessary financial tool. You are best off having six months to a year’s worth of spending tucked away in a safe and liquid investment (like a high yield savings account or a CD) when you retire.
One of the hardest things to figure out is how much you’ll spend each year in retirement. You expect your spending habits will change from before you retired, but no one is quite sure how or how much. That’s why it’s smart to track your spending before and after you retire.
If someone asked you how much you spent on entertainment last year would you be able to tell them? You probably have a guess, but you wouldn’t know for sure. Unless you are tracking how much you are spending and saving how can you accurately predict how much you’ll need to live off of in retirement. For the three years before my Dad retired he maintained a spreadsheet that detailed where the money he and my Mom spent went. He wrote down each month how much they spent on groceries, utilities, entertainment, travel, car payments, etc. This way he had some idea of what his spending habits were like and gave him an idea of how much money he would need to live off of in those first few years in retirement.
In his day he tracked expenses with a spreadsheet. Thankfully today there are much easier ways you can do this. Mint.com has a great tracking tool available that can show you pie charts and graphs that give an overall picture of where your money is going. There are also tons of apps if you have a smart phone that can help. Some of the top rated apps include Pocket Money Lite, Pennies and Cashish. Of course you can still go the traditional route and use software programs like Quicken Books.
These moves are all about holding onto the maximum amount of money you earned throughout your life. The government will take as big of a share as you let them. That’s why knowledge like this is so powerful. It can help you increase your income in retirement easily, without any risk or worrying about market dips and pull backs. Be sure to read my letter every Wednesday to find out strategies like these that allow you to keep your hard earned money where it belongs–in your pockets!
Keeping Money in Your Pocket,