The ideal time to start planning for retirement is the moment you leave school and enter the workforce. Beginning at a young age gives you more time to build a nest egg and learn from your mistakes. If you plan to retire early, it’s especially important to get a head start on retirement planning — and equally important to avoid the mistakes that can complicate those plans.
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If you have your sights set on retiring long before the traditional age of 65, you’ll need to take special care to recognize and avoid some of the common pitfalls. Here are five money mistakes people make when planning for an early retirement.
Relying Too Heavily on Employer Plans
Most Americans depend on 401(k) plans and other employer-sponsored retirement savings plans to build their nest eggs, and there’s no question these serve a useful purpose. But if you plan to retire early, you’ll need to get a bigger return than you would with most 401(k) plans.
That means diversifying into individual stocks, funds, real estate investments and other high-growth vehicles.
Here are some of the reasons it’s a mistake to put too much reliance on a 401(k) if you want to retire early:
- There are limits to the amount you can contribute every year, which also limits the amount you can save up for an early retirement.
- You face a penalty if you withdraw funds from a 401(k) before age 59 ½. If you want to retire at 50 or 55, you’ll have to wait many years to access the account penalty free.
- You are under more pressure to build a nest egg quickly than you would be if you waited until 65 or so to retire. Relying exclusively on employer sponsored plans is not the best way to accelerate your savings.
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Focusing Too Much on a Specific Financial Goal
One of the biggest mistakes people make when planning to retire early is “getting bogged down” by a specific savings number rather than digging into how much income they’ll need to retire comfortably, according to Steve Chen, founder and CEO of Boldin, a financial planning platform.
“Instead of assuming that they need $1.5 million or more, like some surveys have reported, individuals need to figure out how much annual income they need to support their desired lifestyle,” Chen told GOBankingRates.
Underestimating How Much You’ll Spend
According to AARP, a typical rule of thumb is that in retirement, you’ll spend about 80% of the money you spent during your career. But it’s a mistake to plan your early retirement around that figure, because you’ll probably spend a lot more than that, especially during the initial retirement period.
Many new retirees — particularly younger ones — spend as much money or more than they did pre-retirement, because they want to travel, renovate their homes, dine out more and adopt expensive lifestyle choices.
Underestimating Your Tax Burden
Similarly, many early retirees underestimate how much they’ll pay in taxes and wind up getting caught off guard when they file their annual returns.
“Many people don’t realize they may be pushed into a higher tax bracket during retirement, so it is especially important to forecast your future taxes,” Chen said.
He recommended using tax planning tools, like those offered by Boldin, to estimate your tax liability for the rest of your life and then make strategic moves to reduce tax burdens.
Not Accounting for Health and Lifestyle Changes
Even though you plan to retire at an age when health issues aren’t as common as they are when you reach your senior years, it’s still a mistake to ignore potential health costs in retirement. Similarly, it’s a mistake to ignore changes in other lifestyle areas, such as where you might want to live.
“At each phase of your life, your expenses, income levels, healthcare and living situation will be different from what they are today,” Chen said. “By creating a detailed plan that sketches out these life phases and spending, you’ll reach an informed number that you need for early retirement, not what others assume the average person will need. This will make your future feel more concrete and give you the confidence to actually retire early.”
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This article originally appeared on GOBankingRates.com: 5 Money Mistakes You’re Making When Planning for an Early Retirement
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