Retire at 50..Without Paying a Dime in Penalties or Taxes

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24:29Apply today and earn a welcome offer of$1 ,500 cash back after you spend$50 ,000 in qualifying purchases on your new card within the first six months of card membership. Terms apply. Learn more at go.amex.com. This episode is brought to you by Starbucks. That is fire. Whoa, that's good. This might be to drink in the summer. Okay, I like this one too. I'm rocking with it. Okay. Try it for yourself. Starbucks refreshers concentrates are coming home. Find them in the coffee aisle and make it yours. All right, let's talk about the rule of 55. This is a way to unlock your 401k early without penalties.

25:05Now this is something where most people believe you can't touch your 401k until the age of 59 and a half. And that's just flat out wrong. This is something that is a powerful IRS rule that is available to everyone, where almost no one talks about this, but it lets you access your retirement accounts five to 10 years earlier without triggering that 10 % penalty that most people are afraid of. Now, it's called the Rule of 55, and the IRS built this early access pass into the code for people who plan to step away from their job a little bit early. So here's how the Rule of 55 works. So if you leave your job in or after the calendar year that you turn age 55, you can withdraw money from your current employer's 401k or 403b penalty free.

25:48Now, it has to be your current employer's 401k or 403b. It's that simple. There's no fancy loopholes. There's no complex strategy. It's just a little known IRS rule that can fund early retirement for years. Now, here's a cool thing. If you work in public safety, if you're a firefighter, if you're a police officer, if you're an air traffic controller, if you're an EMT, you can actually access those funds even earlier than the age of 50. So here's why the rule of 55 is so powerful, because it helps you bridge the gap again of early retirement. So for many people, there's a four to nine year stretch where they think their money is locked, but this rule actually unlocks it.

26:22So here's what it gives you. It gives you one penalty free withdrawals. So you can withdraw from your 401k or your 403b years before 59 and a half. But two, it gives you that steady income stream to fund your lifestyle in your 50s without selling taxable investments. So if you get to age 55, you can start to fund your lifestyle with some of this stuff without having to sell that taxable investment. It is also a way to delay Roth or IRA withdrawals, giving those accounts more time to grow if that's something that you're interested in. And it gives you strategic tax planning opportunities, meaning that since withdrawals are taxed as ordinary income, you can control your income or tax brackets year over year.

27:01So let me give you a real world example of this, all right? Let's say that you decide you're going to retire at age 55 and you're ready to retire and you have $800 ,000 in your current employer's 401k. So let's see what happens. You leave your job the same year you turn 55. Now you can immediately start withdrawing funds from that 401k without that 10 % withdrawal penalty when you do that. And so you're deciding, okay, I don't want to work this job anymore. That's too stressful. We just had a changeover in boss and he is just on my back all the time. I just don't want to do this anymore. It is causing my cortisol levels to rise.

27:34It's not good for my mental health. I want to leave. And so you leave at age 55. And so when you leave, you are able to actually withdraw this money without that 10 % penalty. Now, you're still going to pay ordinary income tax on the money and anything you withdraw, but no penalty means you keep more of your money. Now, here's the big kicker is you can even go back to work elsewhere and still keep withdrawing from that 401k penalty free as long as you don't roll it into a new plan or an IRA. And so here's a critical thing to think about here, because this only applies to your current employer.

28:04So the rule of 55 is super powerful, but you got to understand a couple of these rules. This only applies to your current employer. And so once you leave after turning 55, if you roll that 401k or IRA into like a Vanguard or Fidelity, and you do a rollover IRA, the rule goes away. So that is one big con to rolling money over is that you could lose the ability to have the rule of 55. Two, timing matters. You must leave the job in or after the year you turn 55. Leaving at 54 and a half does not allow you to qualify. That is why it is called the rule of 55. It has to be in that given year. The plan rules differ.

28:36So not every employer plan allows withdrawals under the rule of 55. So you have to check with your employer plan to make sure that this works. Always check with your HR department or your plan administrator. And you should be in constant contact with them anyway. I would give them a call once a year, talk about anything that has changed within your plans because you got to understand your plan fully. Now, taxes are still going to apply. So withdrawals from this is taxes, ordinary income, but again, no 10 % penalty. And so those are some of the important rules that I want you to note. Now, here's some strategic uses for the rule of 55, because I want you to think about this.

29:09It helps you bridge the gap. So before 59 and a half, you get to age 55, you can utilize the rule of 55 for some additional income. So maybe you've been using your taxable brokerage account for the first five, seven years of a retirement. You've been doing some Roth conversions, but then you get to age 55 and you still have your 401k plan with your old employer. Well, if that's the case and your plan allows, you can start withdrawing from that rule of 55 over that timeframe. Secondly is make sure you look at tax bracket control. Taxes are very, very important. This is why a CPA again needs to be in your corner when you are looking at these accounts and withdraw only enough each year to stay in the lower tax bracket.

29:46That's going to be very important. Three is you can double layer your income. And so if you pair this with a taxable brokerage account or Roth contributions to build up multiple income streams in retirement, where you can start to withdraw from some of these accounts. Now, you can also do some cash flow planning with this. Like if you combine this with maybe taking on a part-time job because you can work somewhere else. And so if you take a part-time job or if you want to take another full-time job, you can combine this with reduced expenses or part-time work to stretch your savings even further if you wanted to go that route.

30:12A lot of people with the rule of 55 will utilize it so they can go take on part-time work and just reduce the hours they are working. Maybe they're in like a very demanding job. And so they will go try to find another job that's gonna help supplement their income. And then they will use the rule of 55 for the rest of their income that they need to make up until they get to age 59 and a half, where they can start to access some of those funds. And then when they get in their 60s, you also have social security coming in. So there's layers coming into play here over the course of the next decade, especially if you retire at 50.

30:39We just talked through the tax brokerage account. Then we talked through the Roth conversion ladder. Now we're looking at the rule of 55. There are still two more strategies that we're going to be talking about here today in this episode. So let's dive into those next. Now we're going to talk about the rule of 72T. Now this is an IRS rule that comes into play and is more complicated than some of these other options. But this does allow you to create steady cash flow for your life by utilizing some of your retirement accounts, even if you retire in your 40s or your 50s, and you can access some of your IRA money without that 10 % penalty.

31:13We're trying to avoid that 10 % penalty at all costs when we are doing all these moves. And so this is one of the few ways to do it legally. Now, we talked about the taxable brokerage account. We talked about the Roth conversion ladder. We talked about the rule of 55. And the rule of 72T is something else the IRS has given us. And it knows people sometimes retire early. And so they created this exception. And it's called the Substantially Equal Periodic Payments, SEPP. And it's also known as the rule of 72T. This allows you to withdraw your money penalty-free from an IRA or an old 401k, 403b before 59 and a half.

31:47Now, let me explain how this works. First is you go to the IRS and you commit to taking equal withdrawals every year based on your life expectancy. So you're going to take an equal amount every single year based on how long you're supposed to live. You must continue these withdrawals for at least five years or until you reach age 59 and a half, whichever one of those is longer. So if you do this at 45, you got to do it all the way till 59 and a half. You pay ordinary income tax on withdrawals like a regular IRA withdrawal, but no 10 % penalty. So again, you're avoiding the 10 % penalty, but you're paying the income tax.

32:20And that is just essentially what you'd be doing anyway when you withdraw this money. Now, why is this powerful? This is powerful for people. If you're retiring in your late 40s or your early 50s and you need income before some of these other strategies are going to kick in. Number two, if you have significant funds in your traditional IRA or your 401k, this is also a very powerful strategy. And if you want predictable, reliable income every single year, instead of selling investments as piecemeal, then this is going to give you that reliable income. It is almost like a forced annuity without having to pay some of the annuity fees.

32:49And so this is a strategy that many retirees use as a layered withdrawal plan. So they'll look at taxable accounts first, then they'll look at SEP, and they'll look at Roth conversions, and then finally standard retirement accounts after 59 and a half. And so this is something where you can layer this in. So here's how the math works with this strategy, okay? When you set up set withdrawals, the IRS gives you three calculation methods. Now, this is where it gets a little bit complicated. You need to have an understanding of each of these calculation methods, or you need to have a CPA or someone else looking at this, helping you through the process.

33:20Number one is the RMD method. So this recalculates each year based on your life expectancy and account balance, and it creates smaller payments, but more flexibility. Two is there is the first amortization method, which is an annual withdrawal rate based on life expectancy tables and reasonable interest rates. And then three is the fixed annuitization method. So this is similar to amortization, but actually uses annuity factors, also fixed payments. So it's similar to an annuity where you can actually turn some of these traditional accounts into something like an annuity without paying the crazy annuity fees that go along with it.

33:54Now, most people choose amortization or annuitization for predictable steady income, because they're going to know how much is going to be coming to their account every single month. So let's say you're 52 and you have$500 ,000 in a traditional IRA. So you set up a SEP plan using the fixed amortization method. And if you did that, your annual withdrawal is calculated at$30 ,000 per year. That's how much that you can withdraw from these accounts without any penalty. Because you're 52, you must continue this for seven years. Again, remember, it's either five years or until age 59 and a half, whichever is greater.

34:26So if you do this at 45, you have to do this for 15 years until you get to age 59 and a half or 14 and a half years. And so you'll receive that$30 ,000 every single year, penalty free, but you'll still owe ordinary income tax on those dollars, but no 10 % penalty applies. So that means you're getting$210 ,000 of predictable income over the course of those seven years that you can utilize to fund your lifestyle, especially if you retire early. Now there's a big catch here overall. The big catch is that this plan is very rigid. Because once you start, you cannot stop this plan. If you do this, here's some of the things that could happen.

35:02You cannot skip payments. You must withdraw every year, even if you don't need the money. You still have to withdraw that money once you start this plan, once you commit to doing this plan. There's no increasing payments. So you can't decide to take more in another given year. You have to take the same amount every single year. So you really got to plan this out. And there's no stopping early. So if you stop before five years or 59 and a half, the IRS retroactively applies that 10 % penalty on every withdrawal you've ever taken plus interest. Okay? So if you screw this up and you do not do the right thing here and you decide, okay, I'm going to stop early, they are going to apply that 10 % penalty plus interest on every single year that you pulled money from that account.

35:42And so you got to understand, all right, this is just like an annuity. I just got to take this money every single year over the course of the next five, seven, 10 years, however long you want to do this for. And that's it. I'm going to take the money every year and I'm going to utilize it. And I can't increase it. I can't decrease it. I am stuck taking these even if your life changes or things change. So you got to make sure that you're planning this out and you know what you want to do. Now, there are some pro tips to using this smartly. One is to open a separate IRA just for these withdrawals, because that way the rest of your investments can stay flexible.

36:14Two is start at the right time. Don't begin or start until you're at least committed to that five plus years of withdrawals or before the age of 59 and a half, and then pair it with that brokerage account. If you have a brokerage account in place and you get these withdrawals coming out, you can also pair that with the brokerage account and have both these options available. So if you retire really early and you're like, I don't know how I'm gonna cover it all, I don't know how to get the money out of there, you could look at something like a set plan, put that together with your brokerage account and some of these other options we talked about, and you can start to get money out without paying the 10 % penalty.

36:43And then be conservative. So withdraw slightly less than you think you need because it's easier to supplement with other accounts than it is to change this. You cannot change this. So if you're unsure, if you are taking too much, you can be conservative with it and then just pull from a taxable or somewhere else if you need to. The rule of 72T is not for everyone, but it can be a lifeline for a lot of people who want to retire early, maybe five, seven, or even 10 years before the age of 59 and a half. Then you can use this without paying a single dollar in penalties. You're going to get that consistent income coming in.

37:12It works very similar to other options out there. It's basically creating your own pension or annuity or creating your own social security until you actually get to that age. And so it's a very interesting way to build out a retirement plan that makes a lot of sense. And so this just gives you another option that you can utilize, even though it's more rigid, it gives you that other option that you can use if you want to retire early. All right, the fifth one is going to be viable for a lot of people out there. A lot of listeners to this podcast, you'll be able to utilize this strategy. And we're going to be talking about today, Roth conversions plus HSA strategies combined together.

37:49Now, this is the hidden weapon of early retirement. This is the secret weapon that a lot of people don't think about, but you can use these two combined, especially if you want to bridge a gap to early retirement and you haven't contributed enough in your taxable brokerage account. Now, most people overlook these two accounts because they don't seem as exciting as something like the Roth conversion ladder or SEP withdrawals or the rule of 55. But here's the truth. Roth IRA contributions plus health savings accounts are two of the most powerful, flexible, and tax efficient tools that you can use when you retire before the age of 59 and a half.

38:22Now, they're not usually the main course of these conversations, but I really like these two. And I think they do provide some great flexibility. And they'd be very high on my list of usage prior to even some of these other options. Now, here's something most people don't realize is that you can withdraw Roth IRA contributions, not earnings, not conversions, but the money you personally put in anytime for any reason, completely tax-free. Louder for people in the back, your contributions that you put in the Roth IRA, your$7 ,000 per year, whatever amount you put in in a given year can be withdrawn at any time for any reason, tax and penalty-free.

38:56Another big, powerful strategy of the Roth. It basically is the emergency fund to your emergency funds to your emergency fund if you needed to. Now, I don't want you interrupting compound interest unnecessarily, but you can pull those contributions at any given time. Let me give an example. Let's say you've contributed$100 ,000 into a Roth IRA over the years. You can withdraw that$100 ,000 anytime you want. You can go in there and say, I put$100 ,000 in my Roth. And it's very easy to find this. Like if you use Vanguard or Fidelity, you just go into your account and you can see what your contributions have been over the years.

39:26And you can do this today. You can do this tomorrow. You can do this 10 years from now. You can do this 20 years from now if you want to. It doesn't matter when it happened. You can withdraw those contributions. You'll pay no taxes. You'll pay no penalties on that money because you already paid taxes on that money before you were contributing. Now, this is a massive advantage for people who retire early because this is a way to quickly get money and access to money out of one of these accounts without having to follow all these other rules, the rule of 55 or having to follow 72T or having to go into a Roth conversion ladder.

39:57You can access some of these funds because essentially what this is, is this is a built-in safety net. It plans and it gives you that instant cash if you decide to retire early. It is also a great tool for gap year. So let's say, for example, you want to retire at the age of 57. Well, you got two and a half years before you can access your money at 59 and a half and you live on$50 ,000 per year. Well, if you put over$100 ,000 into your Roth IRA, you're covered for those two years. You can pull that money out, those contributions out very, very quickly. So here's some pro tips for utilizing these contributions is track how much you have contributed into your Roth IRA.

40:29but again, you can log into some of these accounts and look at it. Now, if you've moved your account around a bunch of times, it may be harder to figure this out. So making sure that you track it, if you're going to move your Roth around is very important because you want to know how much you have put into those accounts. Two is you can leave those earnings alone until age 59 and a half to avoid taxes and penalties. You cannot withdraw your earnings that the money has made. You can only withdraw the exact amount that you put in. Okay. And then use those contributions strategically. So for example, to cover big one-off expenses out there or to bridge a single a year before some of these other income sources are going to be unlocked, you can definitely do that.

41:02Again, another reason to use this is if you retire at 53 and you're waiting until the rule of 55, you can have two years bridging the gap there too. So this is the flexibility that a lot of people need. Now, part two of the strategy is the HSA. If you have a high deductible health plan, you have access to an HSA, which has the triple tax advantage. This is why I like utilizing these two accounts upfront. When we look at a wealth builder's journey inside of Master Money Academy, Those of you in Master Money Academy know this. We have these in a specific order for the specific reason too. It's because if you want to retire early, you have access to these accounts earlier.

41:34And so you can get more money pulled out of these. Here's why this is powerful. The money that goes in is tax deductible, meaning you don't pay taxes on the money that goes into the HSA. The money can be invested and it can grow tax-free. And you can pull the money out tax-free as long as you have a qualified medical expense. Now, the list of what a qualified medical expense is, is a laundry list long. So this means that this is triple tax advantage, really good stuff. And so you can do this for a number of different things. Now, most people use HSAs to pay for medical bills immediately. I don't do it that way.

42:05Instead, I pay for medical bills out of pocket now, and I save the receipts in something like a Google Drive. And then from there, what I do is you can let your HSA investment grow for decades. And so you're letting it invest. You're letting it grow. I leave it in the HSA. I make sure to actually buy investments. And then you reimburse yourself years later. So even decades later for those past expenses, completely tax-free. Wow. It's powerful to be able to do that. Now there's no time limits on when you can reimburse yourself. You could break your leg when you're 21 and reimburse yourself when you're 54.

42:35It doesn't matter. There's no time limit on when you can reimburse yourself for these expenses, which means your HSA can double as a stealth retirement account. Then by the time you turn age 65, you can withdraw money from your HSA for any reason, not just medical, without penalty and non-medical withdrawals are taxed like a traditional IRA. So it basically turns into a traditional IRA by the time you turn age 65. Before age 65, you're just using it as this flexible account that you can have this triple tax advantage there. If you think about healthcare and retirement, having an HSA is very, very important because the average person right now is spending about $200 ,000 per year in retirement on healthcare.

43:11And for folks who have difficult conditions, they are spending well over$300 ,000 in retirement. And so we got to make sure that we're preparing for this, but the HSA is also going to help us bridge retirement early if we want to. So here's why this matters. If you think about this for a second, let's do a real world scenario. Imagine you contribute$7 ,000 a year to an HSA for 20 years, okay? And you invest it without spending it. If you get a 7 % rate of return, that means you're going to have$287 ,000 inside of your HSA. So if you use this for medical expenses, every single medical expense is completely tax-free.

43:42but if you want to use it for anything else, it is now a backup IRA, tax on withdrawal, but penalty free. And if you save the receipts over the years, you can start reimbursing yourself in early retirement tax free. Just gives you another option. So some pro tips for the HSA is to save all those receipts, make sure you're investing in things that make sense and investing those dollars so it grows and then using them strategically as part of your withdrawal sequence. Because think about this for a second. Let's say you had some Roth money, okay? And you contributed $170 ,000 into your Roth IRA over the years, okay?

44:13Let's say you had some HSA money and you had $150 ,000 in your HSA. Let's say you had with$100 ,000 in receipts, okay? Let's say you had a taxable brokerage account, okay? So over those three accounts right there, and you had a taxable brokerage account with$200 ,000 in it, okay? Those three accounts right there, we're looking at a little over$500 ,000, about$520 ,000 between those three examples that you can start to access funds from right away. And if you spend 50, 100, 150 grand a year, it doesn't matter what it is, this is going to help you bridge that gap for multiple years. And so just combining these things gives you flexibility, security, tax efficiency, all those different things.

44:50Now these all together, when we look at all these different accounts, these aren't just standalone strategies. These are something that can help you bridge and retire early. And most people didn't know these exists, which is why I wanted to spend some time. And I know this is a deep dive episode. I know this is one of those advanced episodes, to be honest, But this is something we need to know. We need to know this because it allows us flexibility. It allows us opportunity to be able to retire early. This allows us to change our financial lives and change our financial plan. Because when you bake in flexibility into your financial plan, your whole life can change.

45:23There have been so many examples of people who have decided to retire early, and these are some of the strategies they use to retire early. There are people who retire in their 30s with taxable brokerage accounts, 40s using Roth conversion ladders, 50 is using the rule of 5572T, or just utilizing things like a taxable brokerage account with the Roth, with the HSA, and then starting to unlock some of these other strategies as they become of age. And so for those out there who are thinking through, well, which account should I be contributing to? Think about your retirement plan, how you want it to look, and start mapping some of this stuff out.

45:54This is the fun part. This is the part where you get to get in there. You get to get your hands dirty and decide, what do I want to do and when do I want to retire? How much extra money do I have that I can contribute to these different areas so that I can be able to retire even sooner than I ever thought I could. Because this is gonna unlock that power for you. And I'm so excited for each and every single one of you to be able to do that. Our goal here at the Personal Finance Podcast and Master Money is to teach you these skills so that you can unlock the life that you want. So that you can become a millionaire.

46:22Our goal, we want a million millionaires to listen to us. And so that is the power that you have at your fingertips. And I really highly encourage you to understand how powerful this information and this knowledge is. This is a multi-million dollar decision that you can make, and it's going to give you years back in your life so that you can spend time with your kids, your family, your grandkids, and have financial freedom. Listen, I hope you enjoyed this episode. Again, thank you so much for being here. Make sure you join Master Money Academy or check it out if you have not. That's where you can get live coaching from me.

46:49You can ask questions about stuff just like this, and we will answer them live. So thank you so much for being here. I truly appreciate each and every single one of you, and we'll see you on the next episode.

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