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Professors: How to Make Early Retirement a Reality

Professors often have access to outstanding retirement plan benefits.  During your career, you can accumulate substantial assets through disciplined saving.  You are in your 50’s now and are considering retirement.  But there’s a problem.  Because you are in your 50’s, you are not old enough to retire, right?  Not always the case.  Many believe that you can’t retire until you are at least 59 ½.  This is the age when you can tap into your work retirement plan and outside IRAs without a 10% premature withdrawal penalty.  Others assume that since you can’t receive social security benefits until age 62, retirement must wait until then.  NOT TRUE!  There are many ways for you to fund your retirement early.  The goal is to bridge the gap until you are able to use retirement plan assets without penalties.  Let’s take a look at how to make early retirement a reality…

403b Plan Assets

For most professors, 403b’s represent the biggest pool of assets they own as they approach retirement.  Most colleges and universities offer generous contribution percentages or matching.  It’s not uncommon for me to meet with a professor that receives 10% or more of their annual income in the form of employer contributions.  This is a tremendous benefit to working in higher ed.  But what good is a 6 or 7 figure 403b account if you can’t access it when you want to?

Typically, when you withdraw money from your 403b plan before age 59 1/2 , the money is taxed as ordinary income AND is assessed a 10% premature withdrawal penalty. This is well known.  Less well known, is that if you separate from service at age 55 or later, you can take distributions from your 403b without the penalty.  I will reiterate: you must have separated from service.   Separation of service can be via layoff, termination, or retiring.  Because the money hasn’t previously been taxed, the withdrawals are taxable as ordinary income.  Many individuals will roll their 403b assets into an IRA upon separation of service.  Be aware that IRA’s do not give you the ability to withdraw money penalty-free at 55.  Something to consider if retiring at 55 or older, leave enough money in your 403b to fund retirement until reaching that magical age of 59 1/2.

 

457 Plan Assets

Does your institution offer a 457 plan?  If so, it’s time to take a closer look.  These plans are often underutilized.  That said, it’s understandable why many don’t use them.  The matching/employer contributions are almost always to your 403b plan and not a 457.  Annual contribution limits for 403bs and 457s are $18,000 for those under 50 and $24,000 for those 50+.  If you aren’t maxing out your 403b, you likely aren’t using a 457 at all.  But, 457 plans offers some flexibility for those that wish to retire early.

9 Ways Your 403b Provider is Dropping the Ball

9 Ways That 403(b) Providers are Dropping the Ball

403(b) providers should be doing much more when it comes to helping you with your personal finances. Check out my whitepaper of the 9 Ways that 403(b) Providers are Dropping the Ball. You’ll also get access to my Lifestage Planning Guide for Higher Ed Employees and more.

Here are a few benefits to consider with 457 plans:

  • Like a 403b, your contributions are tax deferred, which lower your taxable income in the year in which you contributed.
  • 457 plan contributions don’t affect contribution limits to your 403b.  This means that you could max out both your 403b and 457 plans in a given year. Want to supercharge your retirement assets?  Max out both plans.
  • Withdrawals before 59 ½ are not subject to an early withdrawal penalty.  As always, you will owe taxes (since your contributions were pre-tax) at your ordinary income tax rate.

That last bullet point is huge!  If you want to retire early, consider making contributions to a 457 plan, if eligible.  Distributions from the 457 plan can act as the bridge that gets you to 59 ½, when all 403b and IRA distributions are penalty-free.

 

Roth IRA Contributions

I have always been an advocate for Roth contributions, whether in a Roth IRA or a Roth 403b (or 401k).  I believe that everyone should have part of their assets in a Roth account.  As a financial advisor, I know the importance of diversification when investing (“Don’t put all your eggs in one basket!”).  It is also important to diversify your asset types (think more baskets).  This way, you give yourself flexibility when it comes to how your money is taxed.  Assets held in Roth registration grow tax-free and qualified distributions are also 100% tax-free.  Think that your tax rates will rise in the future?  I know I do.  That’s why a Roth IRA/403b is powerful.  

 

There is a big difference between Roth 403b’s and Roth IRA’s that can impact your success of early retirement.  Roth IRA contributions can be taken out at any time, without penalty.  This is your money.  Your contributions were post-tax.  You already paid taxes on it, it cannot be taxed again (OR penalized).  Again, this is for Roth IRA contributions, Roth 403b contributions cannot be taken out pre-59 ½ without a 10% penalty.  

Brokerage Accounts

Remember when we talked about tax flexibility?  Investing in a brokerage account is another way to get this done.  These assets are non-qualified assets.  This means that contributions are not tax-deferred, they don’t lower your taxable income like 403b or 457 contributions.  Brokerage account distributions are taxed differently than your 403b, 457, and Traditional IRA’s.  The latter are always taxed at your ordinary income tax rate in the year of distribution.  Brokerage accounts are subject to tax rates on long-term capital gains and qualified dividends.  Best practice is normally to hold brokerage assets for at least a year (which is referred to as “long-term”).  If you don’t hold them for a year, or “short-term”, they are taxed as ordinary income.  Long-term capital gains rates are as follows:

tax table 2016

 

These funds are available to you at any time, there is never any penalty to use them.  Using these funds pre-59 ½ and paying long-term capital gains rates may be favorable compared to ordinary income rates.  (also beneficial: tax-loss harvesting)

 

Life Insurance Cash Value

This is the trickiest of the options.  If you own permanent life insurance, whether it be variable, universal, or whole life, you should be building cash value in addition to paying for a death benefit.  These policies need to be structured and funded properly for using the cash value to make sense.  When utilized properly, the cash value can be used as a tax-free loan.  However, there are many moving parts and it becomes extremely complex.  Use this option only if you have an advisor that knows the ins and outs of how this works.

 

When to Use Each Strategy

Plan to retire before age 55

  • Brokerage accounts
  • Roth IRA contributions
  • 457 retirement plan assets
  • Life insurance cash value

 

Plan on working to or past age 55, but not to 59 ½

  • Brokerage accounts
  • Roth IRA contributions
  • 457 retirement plan assets
  • Upon separation of service, 403b assets
  • Life insurance cash value

 

There you have it!  I hope that this information helps you feel more confident in your plans to retire early.  Don’t wing it!  Creating an income stream from your assets is just as important as accumulating them.  Do you have a retirement income plan in place?

[ctt template=”4″ link=”f9nVh” via=”no” ]Early #retirement for professors can become a reality. Just use these tips! #highered | @IntegWealthNick[/ctt]

This article assumes that you aren’t retiring due to medical hardships.  The accounts mentioned in this article can often be used without penalty if you are experiencing medical hardships.  Securities America and its representatives do not provide tax advice; therefore it is important to coordinate with your tax advisor regarding your specific situation.

Nick Vail is a co-founder and independent financial advisor with Integrity Wealth Advisors in Indianapolis. He started Remove The Guesswork to empower people to stop guessing when it comes to their finances and to start PLANNING. You can learn more about him here. Are you interested in working with Nick?

By | 2017-11-09T23:34:44+00:00 October 6th, 2016|Categories: Higher Education|Tags: , , , , , , , |0 Comments

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