Wednesday, March 13, 2013

Critical Mass

When I graduated from college and started my first job, I began putting part of my paycheck into a retirement account so that someday I could retire. At the time it seemed like such a foreign thing to me that I really paid it no mind which was good because it didn't grow very fast. As the years went by and I changed jobs, I kept up the habit putting away the maximum amount that I could every year into pre-tax retirement accounts but I soon realized that it just didn't grow fast enough that I would ever be able to retire early which was my real goal in the first place. It seemed that I would have to invest more for that to happen.

About a dozen years ago, I opened up a Roth-IRA which allowed me to invest an additional amount of money after it had already been taxed and has the benefit of growing tax free. I religiously set that money aside and maxed it out every year but because it has low limits on what you could contribute, I knew that it probably wouldn't help me reach my goal either.

Perhaps I should say here that my goal isn't very high. It is simply that I want to reach a point of critical mass where I have enough savings saved up that I can stop working and live out my life with the same yearly income (plus inflation) that I was used too. The sooner that point happened, the better.

Flash forward to my last job where I happened into a company where I became part owner and received substantial amounts of stock as compensation. I should clarify that I didn't receive the stock because I was someone who had a golden parachute but rather the company was a type S Corporation which means they can avoid paying all federal taxes if they give all profits to the owners in the form of stock. The stock owners would then pay the taxes when they retire and start withdrawing that money. I started at the company when it was small and it grew into a large conglomerate of companies over a period of a half dozen years. When I left the company last summer, I had a substantial amount of stock that will gradually be cashed out over the next five years and moved into more traditional retirement accounts.

Yesterday I received our last years earnings statement which told me that my share price had increased 41% last year alone. This is after a 10 year run where it has averaged 25% a year! This is outstanding in the returns world. It also bumped me over that magical number that I always said I needed to retire with when I reach retirement age. I reached what I call critical mass and that makes me very happy. The one caveat is that in order to touch that money penalty free, I have three options.

Option one is that I wait until I turn 67 when I can withdraw the money penalty free and just pay my normal taxes on it. Option two is a little used thing called a 72(t) which allows me to set up early payments penalty free as long as I follow formulas based off life expectancy that ensures I don't short change myself and become an early ward of the state. This formula prevents me from retiring right this minute because my life expectancy is too long and the payments would be too small. Option three, and the option that I will most likely proceed with for now, is to continue our saving for those days between X and age 67 where X is a sliding target depending on the amount of savings.

One thing I am working on and which I will probably be blogging about more in the future is teaching myself how to invest this money as I get cashed out over the next five years. Up until a couple years ago, I would have just given it to my financial adviser, given him his percentage cut and not worried about it. However, I happened to learn about a group of people called Bogleheads who follow the principles set forth by Jack Bogle who was the founder of Vanguard. I read two of their books about investing and retirement that opened my eyes to a lot of things. Namely that when you don't pay someone to manage your money, you can screw up quite a bit and still come out ahead. So my spring reading list now includes rereading those books and getting a plan down on paper ahead of August when I receive my first installment of cashed out stocks. Exciting times for sure.


Murf said...

Thanks for reminding me to contact the company my 403b is with to recreate my long forgotten password so that I can log on and make some changes. I haven't changed anything since I started the current job 12 years ago. I don't know much but I think I'm a tad bit too conservative.

Ed said...

Murf - When it comes to investing for your retirement, I don't think there is anything as too conservative. At least you are putting money away and that is better than nothing or letting your money getting eaten up by inflation while sitting in a savings account.

Anonymous said...

There are products out there that follow a basket of investments from the S&P 500 where you can pick the relative risk rating. So as you near retirement and when you aren't topping it up you can move without penalty to risk nearer the T-Bill.
If you really want to get the full benefit of your cash you could get a Canadian trading licence

Ed said...

Vince - The problem I have with those type of products is that their management fees are higher which means overall, I will get less than the average market index return. If I were to buy three different index funds that do the same thing myself but have much less in fees, I get closer to the average market return and am money ahead. I will try to blog about my thoughts on this in the future. Right now I am re-reading one of my Boglehead books on investing to make sure everything is clear in my mind first.

JaneofVirginia said...

Good job. You have done well. In all honesty, if my Dad had not planned this and started it for me, I would be in a pickle.

sage said...

There are a couple of books that I reviewed that I would recommend you read if you are interested in investments. "Taming the Beast" does a good job of describing types of investments and fee structures. David Swensen's "Unconditional Success" (which I have also reviewed) is a good book but is mostly designed for those with higher portfolios that must be concerned with tax issues (which you have less concern with if your nest egg is in 401b and IRAs). Congratulations on achieving your goal.

As what I think Vince suggests, I would look at exchanged traded funds instead of mutual funds, as they often have much lower fees.