Do
you want to retire early and live the life you've always dreamed of?
Then you know that the key to success in this endeavor is advance
planning and strategy. One of the most important strategies you can
use is the two-step retirement plan. What is a two-step retirement?
And how can you prepare for it? Here's what you need to know.
Step
One: The First Retirement
Any
time you want to retire before the standard age, you need to plan for
a 'first retirement' with different rules. This first retirement
could be just a few years or it might be more than a decade depending
on your retirement age goal.
Why
should you think of these years as a 'first retirement'? The answer
is due to access and taxation. Most retirement accounts — including
401(k)s and traditional IRAs — penalize a person who takes out
money before the designated age. The IRS, for example, may impose an
additional 10%
tax on IRA withdrawals
before
age 59 1/2. That's on top of your regular federal and state income
tax.
In
the case of pension plans and Social Security, you may not even be
able to get access early — which could be an even bigger obstacle.
And you need to plan for a gap between employer-provided health
insurance and the age at which you can apply for Medicare.
All
this means that you will need to find a way to access your money
consistently — and without penalty — for the first years of your
retirement. Many early retirees use taxable investment accounts to
fund these years.
But
you can save on taxes if you use tax-advantaged investments including
tax-exempt (municipal) bonds or U.S. Treasuries. A Roth IRA can help
as well since it has no penalty for early access.
There
are a few other ways to create a first retirement nest egg. Look for
work within an organization that allows younger retirees to access
their pensions before the traditional ages. Or, store your nest egg
in a nontraditional, safe investment vehicle that minimizes taxes.
Step
Two: The Second Retirement
Compared
to the first part, the second retirement is much more normal. At this
point, you would shift from those early income methods to more
traditional retirement accounts as you age into them.
Depending
on how much you need from it, apply for Social Security any time
between the early date for your age bracket and the latest date at
which benefits increase. If you have significant other income early
on (including leftovers from your first retirement), you may want to
hold off on Social Security in order to build up a larger monthly
payment and prevent unnecessary taxation of your benefits.
If
you have a traditional pension and retirement accounts, access these
in the best order for tax purposes. If you own a Roth IRA, for
example, you have already paid the taxes on this income, so you can
use it first with no tax consequences. This allows you to more slowly
use tax-deferred accounts like a regular IRA, spreading out the tax
impact and keeping your effective rate lower.
Where
to Get Help
Planning
for taxation during both your first and second retirements is a
challenge. Most average savers don't know the ins and outs of the
Internal Revenue Code, after all. So your best chance for success is
to work with an experienced tax planning attorney as well as an
accountant. They can help you consider all your options, compare your
goals, and learn the best ways to deploy your savings.
At Donald
B Linsky & Associate PA
,
our tax planning pros are ready to help. Call us for an appointment
today and start turning your early retirement dreams into reachable
goals.
