What's the deal with 45?

[A Bird In Hand]

It seems like a lot of young folks aim to RE at 45. What's that about? Why not 42, 43, or 46?

Whatever the reason, I've also chosen 45 as my target for ER. I'm almost 36, so I have 9 years to figure this stuff out. Here's my current situation:

- Married, 2 kids < 5 years old
- $237k left on 20yr, 4.25% mortgage.
- Paying extra ~ $1,100/mo to pay off in 10yrs (2020) instead of 20
- ~$500k in 401(k), IRA, and TSP; 75% stock, 15% bond, 5% fixed, 5% other
- Maxing out my 401(k), plus employer contributes ~ $12k/yr
- $165k cash in low-interest savings account
- $18k, 5 years left on 10 year loan from 401(k) for home downpayment; roughly $4000k/year in payments

My idea is to eliminate all debt (i.e., mortgage + 401(k) loan) and otherwise minimize living expenses prior to retirement at 45. I've run countless scenarios on FIRECalc. Assuming we can live 'til age 95 on $50k/yr, and assuming the worst case scenario of no SS, I still see a variety of success rates from 50% up to near 100% just by trying the 3 preset inflation assumptions. I think this suggests that my plan is on the hairy edge of feasibility, and that I can probably expect the results to be uncertain until I'm much closer to 45.

Whether or not I reach my goal of ER at 45, I'm perpetually ambivalent about what to do with my $165k cash reserves. Some options:

1) Use it to even more aggressively pay down the mortgage. Pro: mortgage goes away faster. Con: my $165k security blanket is diminished.

2) Max out Roth IRA's for me and my wife every year. The $165k was a tax-free equity windfall from the sale of our last house, and putting it into a tax-free Roth IRA...well, it seems like money that was never taxed and never would be. Pretty appealing thought. Pros: tax advantage, high likelihood of higher return than my savings account. Con: security blanket is diminished.

3) Use it to pay off $18k 401(k) loan. Pros: getting rid of debt (even when borrowed from myself) feels good; likely to get better than the 4.6% return that I'm paying myself on the loan. Con: slightly reduces that security blanket.

4) Wait until mortgage balance is $165k (approx 3 years) and pay off mortgage. Pros: no more mortgage, can start building up Roth IRA or other investments at a rate of ~ $40k a year at that point (what I'm paying annually for mortgage now); still have full security blanket for 3 years. Con: obliterates security blanket in one fell swoop.

5) Go against all my pay-off-debt-fast instincts and do one of: stop paying extra on mortgage (would give me extra ~$13k/yr); refinance mortgage to 30 years (extra ~$20k/yr); or recast at 20yrs (extra ~$15k/yr). I'd use the extra $13k-$20k to max out Roth IRAs and add the remainder to cash reserves or other investments. Pros: increase nest egg by $117,000-$180,000 (plus returns) by 45, preserve/extend cash security blanket. Con: my fantasy of paying off the mortgage early is crushed.

I don't necessarily expect to get answers to these questions...I'm more thinking out loud here. However, if anyone wants to offer an opinion about which strategy I mentioned (or others that I didn't consider) might make the most sense given my goal to retire in 9 years, I'm all ears.

 

[Sarah in SC]

Well options 2 and 3 put that money back into investments and out of sitting in cash, which for someone your age wanting to live on income from those investments for a long time would seem to make the most sense.
I would be more interested in those than paying down/off the mortgage with that money.

 

[MichaelB]

Hi Bird, and welome.

I also like options 2 and 3. When you retire early it helps to have taxable savings so you do not need to withdraw from the tax deferred accounts. With 2 young children at home the emergency fund is also important. Is there any chance you can refinance your primary mortgage to a lower rate?

 

[scrabbler1]

As someone who retired in late 2008 at age 45 (see my signature line), my goal was to exclude my IRA (formerly my 401(k)) from ER budget until I reach age 59.5 and have unfettered access to it. The IRA, along with my frozen company pension and SS, are what I call my "reinforcements" which I can begin to tap into at various points in my 60s.

To keep my expenses low in those ER years, I made sure to be debt-free. I paid off my mortgage when I was 35, 10 years before I would eventually ER.

In your case, I do wonder how you will generate enough money in an ER to pay for health insurance for 4 people and later save for college for your two kids.

I agree with the others that you need to reduce the big cash reserve by using it to pay down at least some of your debts. I would not drain it totally but you need to put it to better use.

 

[pb4uski]

Welcome Bird.

While you have/are doing quite well, I'm not sure you will be ready to retire in 9 years. Assuming a 3% WR if you need $50k a year to live then you would need a nestegg of $1.7 million.

You may want to explore a refi. I refi'd in January into a 15 year loan at 3.375%.

I agree that you should maximize contributions to Roths, 401k, HSA (if your employer offers one) with any remaining savings to go to taxable investments.

On the $165k, the question becomes how much of a security blanket do you need? For most people it would be 6-12 months of spending so that would be $25-50k. The rest would the be invested consistent with your overall asset allocation target.

So if it were me, I would pay off the 401k loan to get it out of the way, retain $25-50k and invest the rest in a taxable account with Vanguard in either Wellington, Star or one of the target date funds that aligns with your overall AA (and not necessarily your desired retirement date).

 

[A Bird In Hand]

Hey all! Thanks for your replies. So far the advice has been about what I expected: it doesn't necessarily make sense to aggressively pay down the mortgage while sitting on a largish pile of cash.

I should probably clarify what my plan for ER is. I want to eliminate all debt (mortgage, $18k 401(k) loan) and minimize living expenses in order to maximize my options at 45 -- not necessarily quit working. I know that starting to draw $50k from tax-deferred accounts at such a young age would require a slightly larger nest-egg than I'm likely to have. But if mortgage and all other debt is off the table at 45, then I think my living expenses should be low enough to let me work part time (or switch to a less lucrative but more rewarding job), live off that income, and postpone my withdrawal from retirement accounts.

If my mortgage is still around in 9 years then my living expenses almost certainly will be too high to work less, and I'll lack the FI (ok, partial-FI) that I crave.

But maybe I'd actually have more options available if I stopped paying extra on my mortgage and instead built up my taxable investments in the next 9 years. Previous extra principle payments have shaved off 2.5 years from my 20yr, so if I stopped paying extra now it would be paid off in 16 years (instead of 18.5 yrs per original amortization schedule). At my desired ER age of 45, there would be 7 years remaining on the mortgage and a balance of about $100,000. I'd be able to save $13k/year by forgoing the extra payments, so in theory I could accumulate $117k + returns in addition to the $165k I have now. That would be worth about $350k in 9 years assuming a 4% annual return. Around $450k with a 7% return. At any rate, enough to wipe out the remaining $100k mortgage with plenty to spare.

Here's where I usually start spinning my wheels and end up hopelessly deadlocked. Continuing to pay off mortgage principle aggressively and investing my cash should result in no mortgage + about $250k cash at age 45. Diverting the extra-mortgage dollars into my investments and then using the investment to pay off my mortgage in 9 years will result in...no mortgage + about $250k at age 45. Of course that $250k could be significantly larger or smaller depending on actual market performance. I guess it once again boils down to risk tolerance -- go for the guaranteed "return" of 4.25% (less mortgage interest deduction factor) by paying down mortgage, or chase potentially larger returns in the market. I suppose my user name is a pretty good clue about my own proclivities.

 

[Koogie]

Welcome. I'm just a newbie here as well but I'm in a similar situation as I'm looking to retire in 1.5 years at age 40 (i'm an overachiever, ha) and have a wife with a debilitating disease that will one day make her more or less a dependent like your kids are to you.
I will let the senior people around here comment on your financial plans because:
a) i'm fairly useless at tax and financial planning
b) i'm canadian, so unless you and your friend Ira are planning on moving here, i can't help you

However, I will share something that I have been thinking about a lot lately. Flexibility (it has nothing to do with the storefront yoga studio across the street from the office). The closer I get to "retirement" the more I realize this won't be a permanent thing for me at my age (nor likely for you). Maybe sabbatical is more appropriate ? Semi-retirement ?
Isn't it likely at some point that you might get a job for a little while ? Do something wild/interesting/fun to earn a little money ? Chances are pretty good.

If you agree with that, think about the money you will earn doing it. Even a little McJob earning 10K in a year means $250,000 you don't have to save up in the next 9 years (4% SWR) Doesn't that seem like it takes a little bit of pressure off ? It does to me and is slowly becoming part of my long term plan.

Say maybe 2-4 years off at the beginning, enjoying life and travel with my wife while her health is still good (read: your kids are still youngish) and then supplement the nest egg
so that it builds back up by the time you are ready for real retirement (at the old age of 55 or 60!!)

Anyway, forgive my rambling but I'm starting to realize that "RETIREMENT" isn't an absolute black/white issue and probably won't be for a lot of us trying to retire early. When you think about it that way, it can really influence your financial calculations above...

Cheers.

 

[Sarah in SC]

Koogie, you bring up an excellent point about how fairly early retirees can and do sometimes go back to work, just not where they were before the break. I expect my DH to do something like that.

He's quitting next summer, at 50, and will probably take at least 6 months to a year off to find something interesting to do with his time. I suspect that the more he has to "work" for me since he'll be at home and all, the more interest he'll have in finding a less stringent "workplace" and taskmaster!

 

[A Bird In Hand]

Anyway, forgive my rambling but I'm starting to realize that "RETIREMENT" isn't an absolute black/white issue and probably won't be for a lot of us trying to retire early. When you think about it that way, it can really influence your financial calculations above...

Thanks for your thoughts! No forgiveness required when one rambler rambles to another.

As to your point about flexibility, I agree. I addressed it in my previous post, but maybe it was obscured by all my rambling, or maybe you were already typing your reply before I posted. My current thinking is that I just want the option to work less or do something different by the age 45 or so. Mostly I'd just like to spend less time working and more time with my family. I could see doing that (versus "full" retirement) until I was 50 or well beyond.

 

[pb4uski]

Bird, I agree that FI at 45 is a distinct possibility and more likely than RE at 45. I worked part time for about 6 years before RE and enjoyed it, was able to avoid raiding the nestegg (and actually saved) and had employer subsidized health insurance coverage.

On the mortgage, here's the rub. You mention a 7% return assumption in the prior post. If you really believe that 7% average return then you are best off just making your scheduled mortgage payments and saving/investing the rest.

You'll see numerous threads on this board debating carrying a mortgage or not. IMO, in a nutshell, if you expect your investment return to equal or exceed your mortgage interest rate then financially paying off early doesn't make sense in that you're earning a little spread in that leverage, albeit with some risk. OTOH, many people are more comfortable being mortgage free and in most cases, the spread isn't hugely attractive so if one is more comfortable being mortgage free then that isn't a bad way to go.

In your case the spread is probably worth $3k a year [$237/2 * (7% - 4.25%)] but of course if actual returns are lower than 7% then the benefit will be lower and if actual returns are higher ten the benefit will be higher. Place your bet!!!

 

[A Bird In Hand]

On the mortgage, here's the rub. You mention a 7% return assumption in the prior post. If you really believe that 7% average return then you are best off just making your scheduled mortgage payments and saving/investing the rest.
...
In your case the spread is probably worth $3k a year [$237/2 * (7% - 4.25%)] but of course if actual returns are lower than 7% then the benefit will be lower and if actual returns are higher ten the benefit will be higher. Place your bet!!!

My retirement accounts are only worth about 30% more than what I've put in over the last 14 years. Calculating my rate of return is probably not straightforward since the contributions varied over the years (generally increasing with salary + higher 401(k) contribution limits). But according to Vanguard my 5-year rate of return is less than 5%. No way I'm betting on 7%. A bird in hand, don't you know?

 

[YoungSaver]

I want to eliminate all debt (mortgage, $18k 401(k) loan) and minimize living expenses in order to maximize my options at 45 -- not necessarily quit working.

I like this idea. Thanks

 

[EvrClrx311]

I also think 2 and 3 are best... I'm about 6 years behind you, but on track to be about where you are in 2018.

(this is not meant to be advice... just give you something to think about)

Have you considered using some of the $165K to get an investment property? I know that being a landlord isn't for everyone... but today with rates this low and huge bargains out there you may be able to find a place selling for $165,000 that is surrounded by homes that are 1.5-2 times that amount and rent accordingly. For people who have cash on hand and are not selling a home to get into another one... this really is a buyers market, to the extreme.

Example: About a mile from me there is a house that was built 5 years ago in a neighborhood where the rent is $1,400-$1,600 a month for similar size homes. The community is solid and in a good location. These homes were selling for $350,000-$400,000 brand new (in the 2005-2006 bubble height) and currently a few are short selling in the $225,000-$250,000 range, but prices are just starting to move up again (average market listing is $260K or so). Every now and then a foreclosure shows up for right around $200,000...

Odds of a home like this being worth less then they are now in 10 years is slim to none in my opinion (realistically... it'll probably be back up to around $300,000-350,000 by then just because of inflation, not growth)... also one could expect to collect $18,000 a year in rent while waiting. After factoring in taxes and costs, that's about a 7-9% return on the money. That extra income can be used to accelerate paying down your primary mortgage.

Again, being a landlord comes with its own risks and stresses... but this market is the best we'll ever see in our lifetimes. Rates can't possibly get much lower, rents are extremely high, and houses have seen the worst of the decline already IMO. In markets with low unemployment... prices are starting to rebound.

Oh man... I sound like a realtor haha

 

[A Bird In Hand]

Well options 2 and 3 put that money back into investments and out of sitting in cash

I also like options 2 and 3.

I agree with the others that you need to reduce the big cash reserve by using it to pay down at least some of your debts.

So if it were me, I would pay off the 401k loan to get it out of the way

I also think 2 and 3 are best...

The Ayes have it! Seriously, I just paid off my 401(k) loan a few minutes ago. That probably sounds pretty impulsive, eh? Truthfully I never intended to keep that loan for the full 10 year term, and I've thought of paying it off many times in the past. After hearing everyone chime in about it, I gave it some more thought, did a little research to make sure it was a solid idea, and pulled the trigger. BAM!

This now gives me an extra ~$4,000/year to work with. My intent is to use that $4k toward Roth IRA's. The remaining $6k (total $10k each year, $5k for me and $5k for my wife) will come from my $147k cash reserve and/or savings if we're able to tighten up my budget a bit.

Thanks for the nudge, folks!

 

[A Bird In Hand]

Have you considered using some of the $165K to get an investment property?

Actually I had considered it. I even had realtor friend of mine take me on a tour of a bunch of foreclosed houses a couple years back. Ultimately I decided to pass on the idea because I don't think I'm cut out to be a landlord, and I didn't like the idea of being tied down to one large asset both financially and geographically. Furthermore, all the houses we looked at were junk.

 

[PennStateCLJ]

2) Max out Roth IRA's for me and my wife every year. The $165k was a tax-free equity windfall from the sale of our last house, and putting it into a tax-free Roth IRA...well, it seems like money that was never taxed and never would be. Pretty appealing thought. Pros: tax advantage, high likelihood of higher return than my savings account. Con: security blanket is diminished.

You can still consider it an emergency fund within a ROTH IRA. Remember, you can take out your ROTH contributions (not growth) at any time without tax penalties. Many people consider it another tier of emergency fund.

Of course if you're going to think of it as emergency money, you might not invest it as aggressively as if the value fluctuations were of no consequence.

It should take you 14 years to get all the remaining $147k ($165k - $18k 401k loan) windfall into the ROTH IRA's going that route. Might I suggest that anything beyond your emergency fund (6 months, 12 months- whatever yours is) you put to work for you in tax-exempt bond funds in an attempt to at least pace inflation while interest rates are so low and you wait to get the money into the ROTH's each year. Consider something like limited-term tax-exempt from Vanguard which is a combination of short-term and intermediate-term bonds. Low risk and a better payout than a .8% taxable savings account. The monthly dividends will be tax-free, and you will only be taxed on the capital gain (which at that point should be long term- over 1 year) and taxed the long term gains rate. None of your contributions get taxed on the way out.

Food for thought.

 

[A Bird In Hand]

You can still consider it an emergency fund within a ROTH IRA. Remember, you can take out your ROTH contributions (not growth) at any time without tax penalties. Many people consider it another tier of emergency fund.

For some reason it didn't occur to me that our Roth investments could double as emergency fund if needed. Makes good sense though.

Might I suggest that anything beyond your emergency fund (6 months, 12 months- whatever yours is) you put to work for you in tax-exempt bond funds in an attempt to at least pace inflation while interest rates are so low and you wait to get the money into the ROTH's each year. Consider something like limited-term tax-exempt from Vanguard which is a combination of short-term and intermediate-term bonds. Low risk and a better payout than a .8% taxable savings account. The monthly dividends will be tax-free, and you will only be taxed on the capital gain (which at that point should be long term- over 1 year) and taxed the long term gains rate. None of your contributions get taxed on the way out.

Food for thought.

Thanks for the suggestion! I'm an old hand at saving, but somehow I never managed to learn much about investing along the way. I will definitely consider your idea as an alternative to my low-interest-rate savings.

 

[pb4uski]

I don't see the logic of tax exempt for the emergency fund unless OP is in a high tax bracket.

The intermediate term investment grade fund has an SEC yield of 2.70% vs 1.86% for the intermediate term tax exempt fund. I would consider 85% investment grade and 15% high yield and I think after taxes you would be ahead of tax exempts.

Bird, just recognize that with any of these bond funds (tax exempt or not) your emergency fund would be exposed to interest rate risk and the value could decline if interest rates increase (which many people expect to happen sometime wihtin the next couple years).

 

[PennStateCLJ]

I wasn't referring to his emergency fund. I said anything beyond that to protect more against inflation loss over the next 14 years while he fills the Roth. I also included the limited term because it's short duration and won't experience a significant loss with interest rate changes. He expressed the desire to keep it tax free from the sale and tax-free going in to the Roth so it was tailored to the OP. Yes other bond funds return more, I would classify high yield "junk bonds" more like equities. The limited term will give a better return than a savings account while he waits to shovel it into the Roth.

 

[pb4uski]

You're right. I didn't pick up on the "beyond".

 

[PennStateCLJ]

No worries, same team

 

[aida2003]

It seems like a lot of young folks aim to RE at 45. What's that about? Why not 42, 43, or 46?

Whatever the reason, I've also chosen 45 as my target for ER. I'm almost 36, so I have 9 years to figure this stuff out. Here's my current situation:

- Married, 2 kids < 5 years old
- $237k left on 20yr, 4.25% mortgage.
- Paying extra ~ $1,100/mo to pay off in 10yrs (2020) instead of 20
- ~$500k in 401(k), IRA, and TSP; 75% stock, 15% bond, 5% fixed, 5% other
- Maxing out my 401(k), plus employer contributes ~ $12k/yr
- $165k cash in low-interest savings account
- $18k, 5 years left on 10 year loan from 401(k) for home downpayment; roughly $4000k/year in payments

However, if anyone wants to offer an opinion about which strategy I mentioned (or others that I didn't consider) might make the most sense given my goal to retire in 9 years, I'm all ears.

I dream to quit work at 47, but that's a dream at this point.

Anyway, regarding your OP, where does your wife fit in the whole picture? Apart funding her RothIRA, you say nothing about her. There're two adults in a marriage here, IMHO. What will she be doing when you retire or semi-retire? I'm guessing she's SAHM with the kids right now.(?)

It kind of sounded self-centric, that's all.

Sounds that you're very conservative, not wanting to part with your $165k (minus the loan at this point). Have you thought of parking $20k/yr. in I-bonds while waiting for better interests rates? Interest is not taxable on State level and the IRS taxes after the I-bonds are redeemed only or if used for qualified college education expenses, not taxed either.

 

[A Bird In Hand]

Anyway, regarding your OP, where does your wife fit in the whole picture?

Right there with me.

Apart funding her RothIRA, you say nothing about her.

True...

There're two adults in a marriage here, IMHO. What will she be doing when you retire or semi-retire?

Hopefully giving me a back-rub as a token of her appreciation for all my hard work that resulted in our early retirement. But seriously, she's looking forward to FI too. We'd like to be able to work less, spend more time together, and enjoy our simple lifestyle.

I'm guessing she's SAHM with the kids right now.(?)

Part time work, part time watching kids. Same arrangement will likely continue until ER or beyond.

It kind of sounded self-centric, that's all.

I'm pretty much driving the financial planning at our house. My wife is on board with the ideas I mentioned but prefers a passive role.

Sounds that you're very conservative, not wanting to part with your $165k (minus the loan at this point). Have you thought of parking $20k/yr. in I-bonds while waiting for better interests rates? Interest is not taxable on State level and the IRS taxes after the I-bonds are redeemed only or if used for qualified college education expenses, not taxed either.

Thanks for the idea! I'm really not sure what to do with my cash holdings for now, and you've given me another option to consider.

 

[A Bird In Hand]

I just moved $5k from cash to a Vanguard Roth IRA (Wellington, until/unless I think of something better). Even though I just moved money from one pile to another, it feels pretty good to lock that untaxed cash into an untaxed-in-the-future IRA. Hopefully Wellington won't do anything to make me pine for ING's 0.9% taxed interest income.

 

[obgyn65]

I agree with scrabbler1 and others - paying down debts would be my top priority.

you need to reduce the big cash reserve by using it to pay down at least some of your debts.