The 4% rule for early retirement

Many money experts suggest that you can retire early if you can safely withdraw 4% a year from your nest egg without damaging the egg.

If you're invested in the market, and have thus earned the average 8% on your money, then a 4% withdrawal does appear to be a safe rate. It still allows your principal to grow at a decent 4%. 

However, there may be lean years when the market does not do so well. So, you should build in a safety margin and plan to live on less than 4% if necessary, or save up more money.

So, what do the actual numbers look like? Let's make it easy:

4% of a $1 million is $40k a year. If you can live off of $40k a year, then you need to save $1 million before you can retire early.

If you need $80k a year to live on, then you'd need to save $2 million. This is where frugality makes a huge difference.

The obviously awesome thing about having a police pension is that you basically automatically retire with $1 million in the bank. If the average NYC cop's pension is...say just over 40k, then it's like he's saved up $1 million in his 401K.

The tricky part of that $40k a year pension is that:

1. It'll never grow.

So, while withdrawing $40k from a real $1 million will still allow the principal to keep growing at 4%, and will allow you to keep up with inflation, a 45 year old retired cop's pension of $40k will never be more than $40k.

(There may be a COLA adjustment on the first few thousand dollars. Don't quote me on it. In any case, it doesn't make a difference, and I'm not counting on that to keep up with inflation.)

2. You have to live potentially a long time on $40k. Adjusted for inflation, by the time that 45 year old cop is 65, his pension will only be worth $20k a year.

He would need to hope and pray that Social Security is there to make up the difference. And then, 10 or 20 years after that, when he's in his 70s and 80s, he would have to worry about whether his Social Security check will allow him to live a comfortable life.

What's my point?

Even if you have $1 million saved or a $40k a year pension, you'd better save way more than that in order to keep up with inflation.

You have to either:

1. Earn/save more money,
2. Work longer,
3. Or, educate yourself on making investments that make money for you.

The preferable thing to do in order to retire early is to choose #1 early on in your career, in conjunction with #3. That way, you'll avoid having to deal with #2.

Don't get stuck with #2! (Pun intended)