Considering an Offer to Retire Early: Should You Take It?

In today's corporate environment, where restructuring, and downsizing are the norm, many employers are offering their employees early retirement packages. As you near retirement age, you may find yourself confronted with an offer from your employer for early retirement. While many early retirement offers seem attractive at first, it is important for you to review an offer carefully before accepting it to ensure that it is indeed a "golden" opportunity.

Typical elements of an early retirement offer
An early retirement offer usually consists of severance payments and post-retirement medical coverage coupled with already existing retirement benefits.

Severance payments
Severance payments are usually based on your salary and the number of years you have worked for the company. Severance payments can be distributed in either a lump sum or over a number of years.

Example: John has 30 years of service with the utility company and grosses $675 per week, before taxes. When John reaches age 57, his employer offers him an early retirement package. The package includes a severance payment based on two weeks' salary for each year that John worked for the company ($1,350 x 30 = $40,500).

Post-retirement medical coverage
Because of the high cost of medical care, you might find it hard to turn down an early retirement package that includes post-retirement medical coverage. These packages usually guarantee medical coverage until you reach age 65 and you become eligible to receive Medicare. However, some packages continue to provide full or reduced medical coverage well past the age of 65.

Bridging
Another type of early retirement offer is bridging, sometimes referred to as the golden bridge. Your employer provides you with temporary benefits to bridge the period between early retirement and the time when your Social Security benefits are scheduled to begin. The temporary benefits are usually equivalent to the amount you will receive from Social Security at age 62.

Example: John, age 57, works for a local utility company. The company offers John a golden bridge retirement package that provides him with five years of temporary benefits. The benefits are equivalent to the amount that John will receive from Social Security at age 62. The benefits serve as a bridge between the period of John's early retirement, age 57, and the period when he becomes eligible for early Social Security benefits at age 62.

Evaluating an early retirement offer
The decision of whether to accept an early retirement offer is not an easy one to make. Your company's personnel department should provide either individual or group counseling to guide you during this important decision-making process. If individual or group counseling is not available, feel free to speak to the person in charge of employee benefits at your company. You should find out what amount you can expect to receive each year after you retire. You should then figure out the difference between what you would collect if you retire early and the amount you would earn if you continue working. Make sure that your company has your correct date of birth and starting date of employment, since they are often the numbers used by your employer to calculate how much money you are going to receive.

Tip: If you choose to accept an offer for early retirement, some companies will pay (in the form of a bonus) all or part of the difference between what you would collect if you retire early and the amount you would earn if you continue working.

Caution: Keep in mind that some company-paid consultants may make the early retirement package seem more attractive than it really is. Instead, you should consult legal counsel or another professional advisor.

Tax/retirement plan implications
If you accept an early retirement offer, you should be aware of any possible tax implications. Pension plans often contain provisions that reduce your monthly benefit when you begin distributions before a certain age. As a result, early retirement can result in lower monthly retirement benefits. Employer-sponsored retirement plans (such as 401(k)s) and traditional IRAs are generally subject to the 10 percent premature distribution tax for distributions made before age 59½. However, there are a number of exceptions to this rule, such as distributions made from 401(k)s and other qualified plans after separating from service at age 55 or older.

Provided that you're over age 59½ or meet one of the exceptions, you can make penalty-free withdrawals from your account. However, you may still have to pay income tax on all or part of the withdrawal. Distributions from employer-sponsored plans are usually taxable, since contributions to most of these plans are made on a pretax basis. IRA distributions may or may not be taxable, depending on whether or not the contributions you made to the account were tax-deductible. Roth IRAs are subject to special rules of their own, but are generally not taxed when used for retirement.

In effect, while withdrawals from an IRA or retirement plan can be a valuable source of retirement income, the need for the current income should be weighed against such issues as: (1) the desire to defer income tax for as long as possible, (2) the desire to preserve the assets for your beneficiaries, and (3) the possibility that, with life expectancies on the rise, you may live into your 80s or 90s and may therefore need to draw on those retirement assets for longer than you might think. Another issue that comes into play with IRAs and retirement plans if you retire early is how to best invest the assets. Many financial planners these days advise that you continue to invest for long-term growth after you've retired, especially if you retire early. However, certain modifications to your investment choices and percentages may be appropriate, based on your risk tolerance, your retirement income needs, and other factors.

Consequences of saying no to an offer
If you are considering turning down your employer's offer to retire early, be aware of the consequences of saying no to the offer. If you are holding out for a better offer, keep in mind that the first offer is oftentimes the most generous. If you do not accept the offer, you may find yourself without a job later on down the road. You may want to accept a sure thing right away rather than face further uncertainty on fitting in with your company's future plans.

Consequences of saying yes to an offer
After careful consideration, you may find that early retirement is the way to go. However, before you jump right into retirement, you'll want to be aware of the consequences of saying yes.

Some of the most important consequences include:
1) Less time to save for retirement, since you may have been planning on playing “catch-up” in your last few years of working;
2) Retirement savings will have to last longer – you may have planned to retire at 65, but now at age 55 you’ll have to provide retirement income for an additional ten years. This could derail your plan and force you to seek other employment.
3) Your pension may be smaller – starting earlier typically makes the overall payments smaller than you had likely planned. This will also impact your available funds for retirement.
4) Psychological impact – many folks just aren’t mentally prepared for retirement. If you thrive on the work environment, with the competition and drive that goes along with it, making the change to a more sedate lifestyle may not work for you at this stage.

There are many other issues to consider, but hopefully this article has started you thinking about the important factors. As always, if you need help working out the issues, don’t hesitate to call.