Early Retirement and "Retirement" Accounts

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seanconn256
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Early Retirement and "Retirement" Accounts

Post by seanconn256 »

(this is going to be a USA oriented question)

As someone who expects to retire in their early 30's or earlier; how should I be thinking about using retirement savings accounts?
Obviously going tax-free on a proportion of my income sounds like a great idea; but what is the math that should tell me how much of my portfolio should be in these kinds off accounts? I've seen "max your 401k (to employer contribution) IRA and HSA contributions", but obviously considering I can't spend this money until I'm 65 (or older if the law changes), how much does this make sense?

It makes sense to me that if say 50% of my NW is in these accounts, as long as my normal accounts don't get completely drawn down by the time I reach "retirement age", I can make it. In other words, even though I would be drawing down my normal accounts at 7% , I'm still withdrawing at 3.5% of the total, because my retirement accounts are making money that isn't getting spent.

Does anyone have an equation something to help me figure out how much I should be contributing?

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Re: Early Retirement and "Retirement" Accounts

Post by jacob »

Spreadsheet + bucket system. There's no single equation capable of solving this. You need to make a spreadsheet that goes year by year for the next 50 years paying into and spending from different accounts (buckets). This will give you a better idea.

Standard glidepath is taxable accounts until 59.5. Then 401ks/IRAs until 67. Then SS.

Also need to know about conversion ladders, 72(t), ...


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seanconn256
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Re: Early Retirement and "Retirement" Accounts

Post by seanconn256 »

I did NOT know about conversion ladders, wow. That is a huge loophole. Thank you for that info.
Also the using a large spreadsheet instead of overthinking formulas is turning out to be very useful; I now use it for my work and retirement calculations.
Last edited by seanconn256 on Thu Aug 19, 2021 3:08 pm, edited 1 time in total.

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Re: Early Retirement and "Retirement" Accounts

Post by AxelHeyst »

Plan the work, then work the plan. ;)
(The only tattoo I've seriously considered starts with VLOOKUP...)

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Re: Early Retirement and "Retirement" Accounts

Post by jacob »

AxelHeyst wrote:
Thu Aug 19, 2021 2:42 pm
(The only tattoo I've seriously considered starts with VLOOKUP...)
Please explain. The only [tattoos] I've considered was log scales on my respective index fingers to create slide rule for easy multiplication ... until I realized that finger-length is not necessarily preserved over aging.

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Re: Early Retirement and "Retirement" Accounts

Post by unemployable »

considering I can't spend this money until I'm 65
Actually 59½ for all kinds of retirement accounts, which is to say January 2 of the calendar year in which you turn 59½. There's a provision to access retirement accounts penalty-free as early as 55 if you're working (drawing earned income) at the time.

An excellent reference on 72t can be found at: https://72tnet.com/a-practical-guide-to-sepps/ . It is worth downloading, saving and reading now, so you fully understand what you can and can't do and how the mechanics work before you're forced to take them.

Be aware of changes to the law and potential one-off opportunities to access retirement accounts. For example, last year's CARES Act provision that allowed one to withdraw up to $100k from retirement accounts, pay no penalty and spread the tax hit over three years. That latter provision allowed one to stay in a lower tax bracket. When these opportunities occur, I recommend taking out as much as you're comfortable with, because the sooner you convert "money taxed as ordinary income" to "money taxed as capital gains and not subject to penalty", the better.

Also consider how you manage taxable vs. retirement (nontaxable) funds. For taxable money you should commit to investments for at least a year, to receive long-term capital gains treatment, and favor dividend over interest income. Retirement accounts are better for flipping stuff around and short-term positioning, and some YOLOs because you don't have to track cost bases and pay taxes every time you sell.

Finally, actually eating the penalty probably won't be the end of the world as long as you don't have to pull all your funds out at once. Which shouldn't be the case if you've modeled a multi-decade period of pre-59½ retirement.
Last edited by unemployable on Thu Aug 19, 2021 3:23 pm, edited 2 times in total.

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Re: Early Retirement and "Retirement" Accounts

Post by unemployable »

jacob wrote:
Thu Aug 19, 2021 2:47 pm
Please explain. The only [tattoos] I've considered was log scales on my respective index fingers to create slide rule for easy multiplication ... until I realized that finger-length is not necessarily preserved over aging.
I'd say you're better off training yourself to multiply large numbers in your head or at least approximate the answer in your head to three sig figs.

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Re: Early Retirement and "Retirement" Accounts

Post by AxelHeyst »

jacob wrote:
Thu Aug 19, 2021 2:47 pm
Please explain...
It wasn't going to be actually useful, just straight up gangster like just the string "VLOOKUP" on the inside of my lower lip or maybe directly behind my ear.

And actually, since we're on the topic, prior to vlookup I was seriously considering doing the laws of thermodynamics in equation form (in a couple assumption sets, e.g. the 1st law for open and closed systems), just because I think those eq'ns are hawt (....see what I did there?). Also exergy. Everyone forgets about exergy.

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Re: Early Retirement and "Retirement" Accounts

Post by jacob »

Heh! I'd be willing to commit skin to the first law based on symmetry. However, the second law seems more like a matter of a 19th century statistical paradigm. I see tattoos as a commitment rather than a life history, so I'm reluctant to imprint anything that could later become obviously dumb. That doesn't leave much...

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Re: Early Retirement and "Retirement" Accounts

Post by Salathor »

seanconn256 wrote:
Thu Aug 19, 2021 2:38 pm
I did NOT know about conversion ladders, wow. That is a huge loophole. Thank you for that info.
Also the using a large spreadsheet instead of overthinking formulas is turning out to be very useful; I now use it for my work and retirement calculations.
I don't think it's a loophole so much as a real tool for legitimate purposes that's just maybe being used a little funny (although maybe that's the definition of a loophole). Dave Ramsey (who's very traditional finance) likes to recommend them a lot for young people who are not planning to retire early. He just believes that folks are better off in Roths so he suggests converting the IRAs into Roths when you get the money to pay the taxes on it.

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Re: Early Retirement and "Retirement" Accounts

Post by 2Birds1Stone »

As an E-ER, you have a plethora of ways to access most saving/investing vehicles early and with negligible taxes.

The way I approached it is thinking of how I would maximize the cashflow with minimum taxes over a lifetime. It's really easy unless you're spending way above the per capita median spending for the USA. The tax code is also such that earning side income after E-ER is very tax efficient so long as you're in the lower marginal tax brackets.

OOO cash/checking->high yield savings-> CD's->taxable account dividends->cap gains-> roth contributions-> taxable principle-> roth pipeline converted funds after 5 years->etc etc

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Re: Early Retirement and "Retirement" Accounts

Post by unemployable »

2Birds1Stone wrote:
Thu Aug 19, 2021 7:13 pm
The way I approached it is thinking of how I would maximize the cashflow with minimum taxes over a lifetime. It's really easy unless you're spending way above the per capita median spending for the USA.
I've had years where I've cashed out more than I needed to live off, in order to declare as much income as possible at a zero tax rate.

It's also advantageous to spread out selling assets for large purchases, such as a house or car, over two years to avoid going into a higher tax bracket in any single year. Sell half in December and half in January, for example.

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Re: Early Retirement and "Retirement" Accounts

Post by Lemur »

One could also consider just eating the early withdrawal penalty if necessary. Not recommended but it is an option. I vaguely recall reading an article that showed the math of investing in a retirement account + eating the penalty was still greater than the taxable accounts in the long-run.

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Re: Early Retirement and "Retirement" Accounts

Post by WFJ »

If you plan to retire well in advance of 55, you may be better of just paying taxes now, investing in a regular account and paying the 15% LT cap gains rate. Maybe some in a ROTH, but would avoid any IRA above an employer match. There are way to withdraw early without penalty, but can be quite complex and many large brokerages don't support these plans (last time I checked my largest IRA custodian did not support 72t due to the complexities/risks of the plans). One "problem" I have encountered is having an outsized regular IRA balance (mostly due to employment retirement plans) and would have been better off in a ROTH or even skipping the tax deductions and investing in a regular account given the market has ripped higher in the last few years.

Without knowing anything about any individual, maximize match, balance with a ROTH in a personal account at a similar rate and the rest in regular brokerage, this would diversify your tax liabilities. Regular IRA = 25%, ROTH = 25% and Brokerage 50% is a good goal, but almost impossible to control, but a guideline. This can wildly change with the stroke of a pen and make a 100% fiduciary, authentic and honest recommendation made today turn into a financial planning nightmare only a few years later (stretch IRA is one such recent change that made ROTH and ROTH conversions much more beneficial).

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Re: Early Retirement and "Retirement" Accounts

Post by unemployable »

WFJ wrote:
Sun Aug 22, 2021 5:07 pm
There are way to withdraw early without penalty, but can be quite complex and many large brokerages don't support these plans (last time I checked my largest IRA custodian did not support 72t due to the complexities/risks of the plans).
I don't understand this. You should be able to tell your custodian to withdraw any amount at any time. Then it's up to you to report it correctly to the IRS. Whether this is a 72t, an allowed penalty-free withdrawal such as to buy a house or pay medical expenses, or a nonexempt withdrawal that incurs a penalty is your concern, not theirs. You file whatever forms and pay whatever taxes are required at tax time. This is how Vanguard handles it (source: CARES Act withdrawal taken last year).

Perhaps the custodian withholds a certain amount for taxes, but they don't know what tax bracket you're in anyway. Vanguard lets you elect any amount you wish including zero to withhold. Then you pay estimated taxes or get a refund as with any other over- or underpayment.

Maybe you're saying they won't compute the 72t amount for you, which includes deciding upon the computation method and valuation date, which makes more sense.

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Re: Early Retirement and "Retirement" Accounts

Post by 2Birds1Stone »

IRA's are also portable, and if you're unhappy with one provider then you can switch fairly simply.

Also, as a single filer in the USA, your LT cap gains tax is 0% on up to $40,000 of taxable income for individuals, and $80,000 for MFJ. Dividends are also taxed very favorably in the lower tax brackets. This makes conversions a very attractive strategy for avoiding taxes.

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Re: Early Retirement and "Retirement" Accounts

Post by WFJ »

unemployable wrote:
Sun Aug 22, 2021 5:28 pm
I don't understand this. You should be able to tell your custodian to withdraw any amount at any time. Then it's up to you to report it correctly to the IRS. Whether this is a 72t, an allowed penalty-free withdrawal such as to buy a house or pay medical expenses, or a nonexempt withdrawal that incurs a penalty is your concern, not theirs. You file whatever forms and pay whatever taxes are required at tax time. This is how Vanguard handles it (source: CARES Act withdrawal taken last year).

Perhaps the custodian withholds a certain amount for taxes, but they don't know what tax bracket you're in anyway. Vanguard lets you elect any amount you wish including zero to withhold. Then you pay estimated taxes or get a refund as with any other over- or underpayment.

Maybe you're saying they won't compute the 72t amount for you, which includes deciding upon the computation method and valuation date, which makes more sense.
One can withdraw money from an IRA at any time, but these withdrawals would be subject to income tax and a 10% penalty before 59.5. A 72t is a complex agreement, not a one-off withdrawal, that forces individuals to systematically (Minimum, Annuity, Amortization, ZERO flexibility) withdraw prior to 59.5 but are filled with pitfalls and can result in HUGE penalties for a somewhat innocent errors. The laws can change at any time, but currently, one could have been making 72t withdrawals for 9 years without incident, then if $1 is added to the IRA balance, a 10% fee would be added to all previous 72t withdrawals. This among other potential disasters is why many firms do not support 72t in any way. A 72t is basically an early RMD, but can cause more tax issues if not executed correctly. Don't count on in being available at every brokerage firm at any time. Has anyone on this forum actually set up a 72t plan?

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Re: Early Retirement and "Retirement" Accounts

Post by unemployable »

You didn't address what I wrote. I've researched 72t's pretty thoroughly. My point was that I don't see why you'd need your custodian's permission to make a 72t or any other withdrawal. Screw that; it's your money. Just take the withdrawals and deal with the taxes yourself, it's not the custodian's problem.

I've dealt with the IRS a few times, including helping out relatives. Usually the screwups are theirs unless you're not reporting something they got a 1099 for or something like that. You go back and forth a couple times and if you were right in the beginning you usually will be right in the end.

The document I referenced a few posts above advises, before implementing a 72t, writing out a policy statement regarding all the mechanics and procedures you will follow, so you can refer back to it in future years and have a ruleset to show to the IRS if necessary.

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Re: Early Retirement and "Retirement" Accounts

Post by WFJ »

To satisfy the SEPP payments, one would want to use the services of a broker to take on this responsibility. One can do it on their own, but then subject to defending IRS challenges on your own compared to saying "XYZ broker with millions of accounts estimated my SEPP".

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