It's ironic, in a way, that while many of us are establishing our careers, we're also programmed to think about ending them. Whether you like your job or dread going to work, it's natural to have retirement on your mind. But if you're among those who dream about early retirement, you should know that it's a more attainable goal than you might think. If you're intent on making a timely exit from the workforce, here are three rules to follow.
1. Start saving immediately
The sooner you start saving for retirement, the sooner you'll be able to tender your permanent resignation. That's because saving early gives your money more time to grow. Say you start contributing $5,000 a year to a 401(k) and continue to do so until your retirement 35 years later. If your investments earn a 6% return, which is well below the stock market's historical average, then you'll have almost $574,000 to retire on.
Now let's say you start funding your 401(k) 10 years later, investing $5,000 a year for 25 years and earning the same 6% returns. You'll end up with around $282,000 -- nothing to sneeze at, but less than half what you would've accumulated had you started saving 10 years prior.
Do these numbers look fantastical to you? If so, note that they don't even include matching employer contributions or pay raises. So let's look at a more ideal scenario. You're 25 years old, you currently earn $60,000 per year, and you get a 3% raise every year. You scrimp and save in order to contribute 20% of your pay to your 401(k), and your employer matches 50% of your contributions up to 6% of your salary. If you stay the course and earn a conservative 6% per year, then you could retire a millionaire at age 50.
That's the beauty of compound interest. So if you're serious about retiring early, then start saving as soon as you land a steady paycheck.
2. Don't be too conservative
The more your investments earn, the more likely you are to be in a position to retire early -- and conservative investments like savings accounts, CDs, and even bonds probably won't get you there. Imagine you want to retire in 20 years and have $50,000 to invest. Stick that money in a savings account paying 1% interest, and you'll have just $61,000 two decades later. Lock up your money in long-term bonds paying 4%, and you'll have close to $110,000. But if you invest in stocks -- which you can do if you start early and have ample time to ride out the market's inevitable highs and lows -- and manage an 8% return overall, which is perfectly realistic given the market's historical performance, then you'll wind up with a cool $233,000.
Investors should aim for a blend of investments in their portfolios. But if you want to retire early, then you'll need to be more aggressive and allocate a substantial portion of your funds to high-growth investments throughout your career.
3. Live below your means
Retiring is all about making the most of a fixed income, and the sooner you get into the habit of living frugally, the more ready you'll be to retire early. While you may be able to afford a $250,000 mortgage, that doesn't mean you should buy a home at the top of your price range. Most people consider housing their single largest expense, so if you manage to keep your housing costs (including rent or mortgage, real estate taxes, and homeowners' or renters' insurance) to 20% of your income or less, you'll be in a great position to start socking away some serious retirement cash. Also keep in mind that smaller homes are less costly to heat, cool, and maintain than larger ones.
Similarly, while owning a car offers a level of convenience that buses and trains simply can't match, if you live somewhere with public transportation, there's no reason to purchase a vehicle if it adds hundreds of dollars to your monthly expenses.
You might even consider moving from an expensive part of the country to one that offers a more affordable cost of living, especially if you can do so while maintaining a similar salary level. Spending less on living expenses means having more money left over to save for your early retirement goal.
Even if you're starting out with minimal savings and a mediocre salary, you stand a pretty good chance of retiring early if you make smart living and investment choices from the get-go. It may take some sacrifice, but will be well worth the effort in the long run.