If you are a F.I.R.E. aspirant, you would probably have a number in mind – If I get X amount of money, I can possibly retire (and live happily ever after). Working or not working is a call you can take later. In this you make certain assumptions about your post-retirement life, but do you plan out for unforeseen circumstances or eventualities that may arise? Are you aware of the possible financial risks in early retirement?
(Assumption – You already have enough money saved & will be living off the passive income during retirement)
What are some financial risks in early retirement?
1. Longevity Risk
The average life expectancy in India is nearly 70. In US and most of the European countries it is closer to 80. And this is the average number, which has risen over the years thanks to advances in medical science. A lot of people may live way beyond that. And therein lies the risk.
What if you retire at 50 and live to 100. You would spend half of your life as a retired person.
Or – What if you earn, save and invest really aggressively in your younger days and retire in 35, and then live up to 105 years? In this case, you would have spent two-third of your life in retirement.
Are you financially covered that your wealth/ retirement corpus can last so long? If yes, good. If not, there is a serious risk of running out of money before long.
Apart from your retirement corpus, longevity will also impact other aspects of retirement (few of them discussed below)
For most of us, this is hopefully a good problem to have, unless caught unaware!
2. Health Issues
While medical science as advanced tremendously, and enabling a longer lifestyle, most of our lifestyle is becoming unhealthier. With our lifestyle which has generous dose of junk food, stress and polluted environment, health risks are omnipresent. Lot of people are susceptible to health issues at relatively younger age. And as you age, health risks increase. And so do healthcare costs.
As you age, your insurance may not be able to take care of all your health needs. Even with a good coverage, there may be some exceptions. Hence you may need to have access to funds in case any such need arise.
And as you grow older (e.g. by the time you are in 80s) you might need people to assist you with your daily chores. And this doesn’t come for free.
This needs to be a part of your retirement plan, if you wish not to be financially dependent upon anyone post retirement.
3. Lack of activity
What will you do when you retire early (or even when scheduled)? Just retire? Or do you have a plan in place?
Drifting aimlessly for days, months, years and decades can be frustrating. This can have not-so-good consequences on your mental health, especially if you are accustomed to a fast paced life. And before long, you would ideally need to be engaged in something meaningful – it can be anything that give you a sense of purpose and direction. It can be a paying or non-paying activity. Some examples can be -volunteering, teaching, writing, looking after family etc. And it can top up your passive income too!
Not exactly a financial risk, but nevertheless, something that you would need an answer too.
When you retire early, you have certain assumptions – like, your corpus will grow at a particular rate & you can withdraw amount every year. And that inflation will be Y% and you’ll live happily ever after.
But the time frame we are talking of is in decades. And it is a long time. If you have been in this F.I.R.E. universe for few years only, you probably haven’t seen high inflation. But, history has been replete with years of high inflation (and few years of negative inflation too). Venezuela and Zimbabwe have seen runaway inflation in not too distant past.
Considering that retirement is a long long time, wherein you will be planning for few decades at least, will it all be hunky dory for entire period of time?
And yes, I haven’t considered lifestyle inflation. If your lifestyle needs keep on increasing, you will face inflation at a rate much higher than what the inflation numbers say.
Can you plan for high level of inflation, while planning for early retirement?
Among financial risks in early retirement, this is probably hardest to plan for, for you can’t always predict what the government thinks & how will it act. Especially in a long enough time horizon.
You typically plan for a certain number of years based upon certain assumptions about returns & inflation. However, it may not always hold true. Government policies and regulatory environment can change. Remember, we are talking of a time horizon of few decades. The assumptions that were true in 1970 may not be true in 2020. The assumption that are true in 2020 may not be true in 2070.
There are many things that can not go as per plan – e.g. rate of interests in fixed returns instruments not keeping pace with inflation, crash in equity markets, change in taxation rules, pension rules, regulations around healthcare etc.
Pessimistic it may sound, but who knows few years/ decades down the line the government type or structure of polity could change altogether!?
(Related – Morgan Housel recently wrote an insightful post – You have to live it to believe it. Many of us haven’t lived through turbulent times & hence underestimate the risk)
So, what do you do in light of financial risks in early retirement highlighted above?
I think the best thing to do is plan for the things possible. It may not be possible to plan for each & every thing, but one can try to cover some bases at least.
For instance, you can continue doing activities which give at least some cash flows, live a healthy lifestyle, get adequate insurance, diversify assets to manage some risks etc.
There might be many other risks – small and big associated with retirement, and some of these are quite contextual in nature. It’s is always good to plan for some stuff that can be planned. And hope for the best in things that cannot be planned.