Income Bridges 101

Investing & Retiring, Social Security

For those who have invested unwisely or not saved much money for retirement, the bridge to Social Security income is clear — keep working. If you still have debts you want to pay off before retirement, the free Debt Optimizer by MoneyTips can help you reduce your interest payments and lower your debt. However, if you have saved and invested wisely, you may have the option of retiring before you are eligible for Social Security.

Enjoy your early retirement, but remember that you need to manage your money just as wisely through this “bridge” period between early retirement and Social Security as you have during your working years. Since your income stream will now be dependent on your investments, planning becomes more important than ever.

Take these steps to make sure that you will have sufficient income to meet your needs and are truly ready for an early retirement.

  • Determine Your Needs – Your first impulse on retirement will be to splurge, now that you have the free time to travel and do things you couldn’t do while working. Resist that impulse until you evaluate your long-term needs.

    If you are retiring early, you may be looking at 5-10 years before Social Security kicks in and 35-40 years of total retirement. How much can you live on per year, assuming you are enjoying your retirement with travel or other expenses you did not incur before? Do you need $30,000 or $100,000?

    Compare this amount to your existing assets and calculate the percentage of your retirement money you will need to draw out to live on per year. A typical safe range of withdrawals is 3%-4% annually, and you will be tempted to go higher in the early years as you explore your new lifestyle. If that percentage is not enough, consider delaying your early retirement and build up your funds or be prepared to reduce your spending in the early transition years.

  • Build a Cash Buffer – Typically, early retirement income options will be dividends, fixed-income investments such as bonds and annuities, interest on various accounts, and long-term capital gains. Aside from that, you will be dipping into some existing asset account, and dipping into retirement accounts prior to age 59-1/2 usually comes with a significant tax penalty.

    It is wise to have a cash buffer on hand in case of a market downturn that drains some of your growth investments — especially if your spending is at the higher part of the safety percentage range. Keep your liquidity and get at least some return by mixing cash with investments like laddered CD’s and short-term bonds. A safe cash buffer holds three to five years of living expenses; adjust that amount according to your risk tolerance.

  • Reassess Your Investments – You are now entering the transition period where safety is taking on similar importance to growth. It is time to rebalance your portfolio to reflect that strategy. Consider your investments as two separate baskets — one to meet the intermediate-term needs of safety with some income and growth, as well as another to represent longer-term growth.

    Harvest any poor performers for the capital gains (or losses to go against tax obligations) as part of your cash strategy and then set the general ratio of stocks to bonds according to your risk tolerance. A typical strategy is 50/50 for the intermediate term and 70% stocks for the longer-term accounts, but take into account current conditions. For example, with the extremely low interest rates available today, bond yields are poor enough that the balance may need to shift more toward equities.

  • Set Up a Withdrawal Strategy – In general, avoid drawing out of tax-deferred accounts as long as possible to allow as much tax-deferred growth as possible and avoid any early withdrawal penalties. Plan to draw off taxable investments and Roth IRAs first. However, you must be flexible depending on your needs and the accounts you have to work with.

If you are successful with this approach, you can consider extending this bridge policy beyond your Social Security qualification date and delay Social Security benefits up until age 70, allowing these benefits to increase by 8% for every year that you delay taking them.

Don’t give up on planning now. With some extra effort, you can successfully make your way across your “income bridge” and transition into early retirement as smoothly as possible. Let the free Retirement Planner by MoneyTips help you calculate when you can retire without jeopardizing your lifestyle.

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