How much do you need to retire young?

June 23, 2006 12:12 AM

How much money do you need to retire at 40 these days? What amount of money do you need to survive comfortable indefinitely? What about if you just want it to last until you are, say, 85?

Let's say you have no kids and are unlikely to have any. You have a partner and might have a dog or two and some land. You want to live and eat comfortably and travel but you don't need to fly firstclass, eat in the best restaurants every night or impress your friends and neighbours. You're pretty good with money but would like to manage what you have fairly passively while you indulge interests like studying, contributing to the community etc.

Do people retire at 40? Anyone had or are planning such an experience or know of people who have? Interested in answers from any country - UK, UK, Europe, Australia etc...

posted by zaebiz to work & money (23 comments total)

IANAA (I am not an actuary), but will be eventually. See a qualified professional before acting.

What you're looking for is the actuarial present value of your desired income stream. You're in Canada. Based on methods and rates prescribed today (June 22, 2006) by the Canadian Institute of Actuaries, the immediate annuity factor at age 40 is 17.3163 for an annuity paid for your lifetime only.

I.e. to produce an income of $100,000 per year you need $100K x 17.3163 = $1,731,630 invested in "typical" assets at age 40, if you live a "typical" lifespan.

Your mileage may vary.
posted by randomstriker at 12:34 AM on June 23, 2006 [1 favorite]

Oh yeah, the best way for you to get an actual quote rather than my theoretical estimate is to call up an insurance company and ask them to explain their annuity products to you. There are many options to consider.

Life Annuities pay a prescribed amount for a prescribed number of years, or until the month that you die. The payments can be flat, indexed to inflation, increasing at a custom rate, and so on.

Guaranteed Annuities pay a designated beneficiary for X number of years after you die. Survivor Annuities pay your spouse for his/her lifetime after you die.

And so on.

Figure out how much annual income you would like, then talk to an insurance company to figure out the rest. Or figure out how much in assets you can accumulate by age X, and convert that back into an annuity to see if that can provide you with the lifestyle that you want.
posted by randomstriker at 12:42 AM on June 23, 2006

Is there a simple formula or table to produce that "immediate annuity factor" for different ages?
posted by timeistight at 12:43 AM on June 23, 2006

timeistight: the best way is to just play around with quotes. Vanguard is a pretty good place to do it: http://www.aigretirementgold.com/vlip/VLIPController?page=RequestaQuote
posted by lhl at 12:55 AM on June 23, 2006

I had a much longer answer for this, but basically, if you're serious about retiring, you'll want to accurately track your expenses and your income as well as your capital gains - the point at which your capital income exceeds you're expenses you are financially independent.

One thing to keep in mind is that all this talk of annuities is for the point after you retire and when you want a fixed income available; annuities are pretty bad growth/investment vehicles in general (variable annuities can be good if you've already maxed out your other tax-deferral options).

You should definitely talk to a certified financial planner or two before deciding what you're going to do, although honestly, from the details (or lack thereof - there's nothing about how much you've saved, how old you are, what you're expenses actually are) there might be some more basic things you want to do first (calculate net worth, monthly expenses, play around with retirement calculators, etc.)
posted by lhl at 1:11 AM on June 23, 2006

Ok let's say for argument's sake, I want us to live on $150,000 per year for the rest of our lives adjusted for inflation.
posted by zaebiz at 1:18 AM on June 23, 2006

$150k per year is enourmous extravagance for my city. You can live comfortably and very well off sans munchkins for $20k/yr for one person, as I do, here.
posted by vanoakenfold at 1:38 AM on June 23, 2006

Ok let's say for argument's sake, I want us to live on $150,000 per year for the rest of our lives adjusted for inflation.

CAD $150K p.a. (roughly USD $134K) at 2006 value, check.

So. You know what your net worth and annual income are now, presumably, and you also have some idea of how much you can afford to save and invest.

Now:

What do you think the average annual inflation rate will be between today and when you die?

What do you think the average return on your investments will be between today and when you die?

There's plenty of past history to use as a guide, and plenty of economists who can offer opinions, but both of those are actually massive assumptions that will have to be plugged in to any planning equation. If it were me, I'd want to plan using a wide range of possible values for both factors.

If this is anything more than an amusing hypothetical, you've got some serious skull-sweat and research ahead of you, and you should be talking to an actual financial planner.
posted by enrevanche at 1:39 AM on June 23, 2006

Based on the rough numbers you'd probably need to put in about $4.5M into an annuity (inflation adjusted payout, joint+survivor life, both 40yo).

IMO, if you're investing that much money, you'd almost certainly be better off paying basis points for a trusted financial planner/money manager. With a well balanced portfolio, you could be pulling much better returns than an annuity would give you even with relatively safe investments.

If you plan on living on $150K/yr, you probably won't need to fly coach (unless you define living well like Forbes does).
posted by lhl at 1:44 AM on June 23, 2006

Is there a simple formula or table to produce that "immediate annuity factor" for different ages?

Not really -- I'm pulling it from my employer's proprietary software package. There's a reason why actuaries take forever to earn their qualification.

Calculation assumptions vary according to applicable legislation, demographics, mortality projections, economic projections and a shitload of other stuff that takes years of qualifications and experience to understand. I'm just a junior actuarial analyst. Actuarial tables are updated monthly or weekly and are different per jurisdiction, per population -- whether for a region or selected group (e.g. set of employees).

annuities are pretty bad growth/investment vehicles in general

Agreed, insofar as annuities are priced with a discount for expected returns on expected "typical" asset growth. The point of an annuity is to pass investment risk on to the insurer. After factoring in the insurer's overhead and margin, you probably wouldn't beat the market but you shouldn't lose by much either.

If you want to beat the market...well, talk to an investment planner (most of them are mutual fund salesmen in disguise) and good luck.

I want us to live on $150,000 per year for the rest of our lives adjusted for inflation.

What sort of inflation are you expecting? Assuming 2% per annum forever, the factor I provided previously goes up to 23.8638. At 3% it's 28.6047. And you may as well ignore the second digit and everything after the decimal point because there's so many assumptions I've made arbitrarily which likely don't apply to you. I am providing this info purely for illustration. Life insurers will be able to price an annuities that are indexed to inflation once you talk in detail to them about what you want and your situation.

Sorry, but to get some real numbers you're gonna have to call a professional, meet with them and map out your life plan. AskMeFi can only go so far.
posted by randomstriker at 1:45 AM on June 23, 2006

With a well balanced portfolio, you could be pulling much better returns than an annuity

Given my profession, of course I am biased. But let's be clear: the key word in your statement is "could".

Typical investment funds don't offer guarantees. Insured annuities do. It's up to you to decide where along the risk vs. return spectrum you want to sit.

"Growth" portfolios: high risk, possible high return.
"Balanced" portfolios: moderate risk, moderate expected return.
Guaranteed Annuities: very low (but not zero*) risk, slightly below market-average return.

*an insurer could default on payments due to, say, the second coming of Christ

And bear in mind that, on paper, mutual funds might offer great returns but commissions and other charges (which can be significant) often aren't factored in.

At the end of the day, there ain't no free lunch.
posted by randomstriker at 2:13 AM on June 23, 2006

Philip Greenspun wrote an interesting article on early retirement - written from his personal experience. He links to separate pages which deal with the specifics of finances and property. His main page tackles the equally important question "What would I do?".
posted by rongorongo at 2:14 AM on June 23, 2006

I agree that a good answer to your question requires complicated considerations that are best guided by a pro, and IANVKAF (very knowledgeable about finance). Here are a few things I've picked up, though. You need to avoid outliving your money, inflation outpacing your money, and health care costs using up your money, to paraphrase three of the five main risks that I see in publications from Fidelity.

I have no association with Fidelity other than being an account-holder with them, but I think their online Retirement Quick Check is a good tool for playing with the numbers, and it takes into account a lot of what a financial pro would. It does require a login, though. Anyone know if there's an equally good tool that doesn't?

One thing that this tool and a good pro will have in common is the use of Monte Carlo projections, rather than straight-line projections. Someone else will be able to explain them better, but here's my very basic understanding of them. They let you select a confidence level (say 95%), and then they use historical data to tell you whether your money is likely enough to meet your needs over time. This lets you draw down your savings at an appropriate point, instead of having to wait until your savings are so great that you could live just off your capital gains. it can also give you the confidence to depend upon investments, with their higher risks and higher potential rewards, instead of upon an annuity.
posted by daisyace at 4:41 AM on June 23, 2006

randomstriker: you're right that there's no free lunch. running the numbers on a variety of guaranteed income annuities gives worse returns than respective i-bonds/treasury bonds/notes (which are guaranteed with "full faith and credit" of the Treasury and also have local/state tax exemption and some other interesting attributes). I'm not saying annuities still wouldn't make sense in some cases (you'd still want to do some bond swaps to minimize reinvestment risk), just that people should do their own research independently.

(I'll be looking more closely at annuities (possibly a split) when/if I do a 72t distribution on my retirement accounts)

rongorongo: That writeup was pretty interesting. Thanks for posting the link, I didn't know philg was still writing new stuff. :)
posted by lhl at 4:51 AM on June 23, 2006

Thanks for all the answers. This is all useful stuff and has started the wheels turning thinking about how to make this possible. I particularly likes the Philip Greenspun article and links.

Anyone else have relevant experiences, plans or insights?
posted by zaebiz at 5:08 AM on June 23, 2006

If you want your income to improve with inflation, you want as little risk as possible, and you want $150,000 per year before taxes, you'll need about $5 million, give or take.

You would invest the money in US TIPS or Canadian RRBs.

The $5 million number is a ballpark number (150,000 / .0275); I don't have access to good quotes, I don't want to spend an hour structuring a bond portfolio for no reason, I might have made an error, et cetera.

Remember, the approach I gave you will give you an inflation-proof government-guaranteed income. If you can stomach a little (or a lot, who knows?) risk, you could probably do the same thing with stocks for cheaper.
posted by Kwantsar at 5:22 AM on June 23, 2006

As others have said, $150,000 p.a. is a LOT. Assuming that you have sent your kids to college and paid down your mortgage (there is NO sense in investing money to pay off a mortgage), think about reducing your outgoings.

My father-in-law retired at age 50 in 1991 from a decently-but-not-staggeringly well paid job. All his colleagues are still working. When they asked him how on earth he could do it, he told them 'because I can live on $30,000 a year'.

And that includes the costs of two homes, by the way, and the travel between them. Adjust for inflation but you get the idea.
posted by unSane at 6:25 AM on June 23, 2006 [1 favorite]

Check out FIRECalc, it can give you a good picture using historical data of how likely your money will be to last as long as you need.

The Early Retirement Forum is a great resource too.
posted by JohnYaYa at 7:41 AM on June 23, 2006

Wow. Great thread, but now I'm feeling depressed. I've worked for five years professionally, and my total income for all that time is no where near $150,000.
posted by agregoli at 8:35 AM on June 23, 2006

agregoll, I wouldn't get too hung up about it. Think about it from the other side - you intrinsically understand just how much $150K is considering you've been able to live for 5 years on significantly less.

Financial independence is a little like losing weight. There's how much you eat and how much you excercise, but at the end of the day, what really matters is the difference between what you take in and what you expend. (I haven't figured out how compound interest fits into this metaphor, so that's about as far as this goes.)
posted by lhl at 12:00 PM on June 23, 2006

Read "Your Money or Your Life".
posted by knave at 1:00 PM on June 23, 2006

You also need to forecast the price trends of the things you like doing -- not everything will follow the same inflation curve over the next 50 years.
posted by Idcoytco at 1:39 PM on June 23, 2006

Knave hit the nail on the head. Read Your Money or Your Life by Dominguez and Robbins. It does a great job of explaining what it might take to retire early, and it explores the implications of such a decision. (That's not the main thrust of the book, really, just a side topic.)

You might also find some useful info from the retirement category at my personal finance site. These entries, in particular, seem relevant:

• How compound interest favors the young.
• The cost of waiting a year to begin retirement savings.
• Making early retirement happen.

People do retire at 40, but what that means exactly varies by the person. My mother reitred at 47, but that's because my father died and left her a business that generates income with no effort required on her part. I know several other people who are semi-retired and near 40 — they work now and then, or keep tabs on a business they own, but mostly they do their own thing.

Of course, if you can find a vocation that you truly love, and which will provide you a steady income, then the line between retirement and "real life" blurs so that no difference can be discerned.

(Thanks, JohnYaYa, for pointing to that early retirement site. There looks to be some great reading there.)
posted by jdroth at 6:22 PM on June 23, 2006