In a recent article, Michael Kitces points out the dual benefits in staying off of the hedonic treadmill as it relates to income increases throughout your career—higher savings today and a lower required replacement income (meaning a lower portfolio balance is needed) when you retire. These two factors make a powerful combination in moving anyone towards their retirement number much quicker than someone who’s lifestyle quickly adjusts to any increases in income. While this concept is absolutely true and should be required reading for anyone with a significant amount time to retirement, my fear is that making radical changes to your level of spending, and therefore lifestyle, near retirement is simply unpalatable for most.
So, might there be another solution? Is there another tactic which allows you to hit your target retirement number quicker but without making drastic changes to your lifestyle?
There is, and it's already gaining traction due to the changing demographics of retirees and the shifting nature of work in modern society.
As life expectancies continue to increase, retirees are spending more time in retirement than ever before. When the social security system was established in 1935 here in the U.S., only 54% of 21-year-old males were expected to survive to age 65. And those surviving to age 65 were expected to live, on average, for another 12.7 years. Compare that to today where 72% of 21-year-olds males are expected to reach 65, and those that do are expected to live nearly another 20 years.
But better health and longer life expectancy aren't the only factors shifting the experience of retirement. The nature of work is different in today's world. There are fewer people earning income through manual labor and more “knowledge” workers in the workforce. These two factors, living longer and the changing nature of work, make it possible for more “older” workers to remain in the workforce.
And this is especially true among younger retirees. The definition of “retire” means to withdraw or remove yourself, typically from some productive form of work. But, in our experience most people aren’t ready to withdraw—they just want some of their time back. They aren’t ready to remove themselves as a productive individual; they're simply ready to get out of the daily grind of full-time employment and have more time to pursue things they are passionate about.
We talk to many former Intel employees about their post-Intel plans, and while the plans vary, the common thread is that many of them are finding ways to continue to contribute on their own terms. We know of Intel retirees in Texas working in higher education, in Arizona tinkering in a bike shop, in Oregon and Washington using their expertise in consulting, taking their skills to non-profits, starting businesses, tutoring, and teaching in schools. The point is, many, especially if they’ve retired young, aren’t just going to play golf or travel the world. They are contributing and enjoy using their skills to provide value in areas and causes they’re passionate about.
Income and Its Impact on a Required Portfolio Balance
So, what does this have to do with being financially ready to retire sooner? While staying engaged and providing value to their communities is certainly valuable to those around them, it also provides financial value to the retiree as well—allowing them to check out of the grind earlier, with a smaller nest egg, and still afford to enjoy life after their primary career.
Let’s look at three scenarios and find out just how valuable pursuing a second career can be to someone financially.
Scenario #1 will serve as our base case. In this example, our retiree turns in her badge at age 60 and has no plans to earn any additional income over the course of her thirty-year retirement. Her spending requirements are $60,000, adjusted for inflation annually, which is met via portfolio withdrawals of $60,000 for the first decade, followed by $30,000 in portfolio withdrawals starting at age 70 once Social Security kicks in (she has elected to defer Social Security benefits until age 70 in order to maximize the benefit).
In scenario #2, our retiree has the same spending needs ($60,000 annually), but in this case, she plans to work part-time earning $30k annually for the first decade. The result is income which bridges the gap until Social Security kicks in. Consequently, portfolio withdrawals are a stable $30,000 annually over the 30-year retirement period.
And lastly, in our third scenario, our retiree adds $10,000 of annual income to scenario #2 over the full retirement period. Portfolio withdrawals are, therefore, reduced to $20,000 annually over the retirement horizon.
So, what’s the impact of this additional income?
In scenario #1, our retiree needs about a $1 million nest egg to have a 90% probability of not running out of funds over their 30-year retirement window. The required nest egg is reduced by 30% while still keeping a 90% probability of success, to around $700,000 in our example, by adding income in the first decade. And, surprisingly the required portfolio value is reduced by over 50% (!) when some baseline level of income is added over the entire retirement period in addition to the first decade.
In our experience, many continue to put up with the grind of Intel (or any other employer) simply because they are married to hitting a target portfolio number, when in reality they could step away from the routine, and take a pay cut no doubt, but still earn enough income that allows them financial freedom sooner than they may have envisioned—and this may have the dual benefit of allowing them to pursue an area of work they’ve been putting off for years but are passionate about getting involved in.
So, what do you think: is it worth earning some income in “retirement” for the benefit of retiring earlier, or when you retire, do you want to never think about work again?