Updated: Jun 27, 2021
No, unfortunately I'm not talking about the legendary hit single by Bruce Springsteen from the 1985 "Born in the USA" album. I'm talking about Financially Independent, Retired Early. Possibly one of the most common acronyms thrown around in the depths of the #FinTwit space, (aka Financial Twitter, yes it's real, and yes, I spend a good chunk of my time there) F.I.R.E. is a growing phenomenon as it relates to the view of your career, personal finances, and most importantly, retirement age.
The F.I.R.E movement has sparked a flare in the millennial generation, with the primary goal of either retiring as quickly as possible, or no longer requiring actively working in order to support your lifestyle. There are countless stories across the internet of those retiring in their early 30's and sometimes early as even 20's. Sounds pretty sweet right!? The concept primarily focuses on your savings rate which I believe to be the single most important factor of personal finance. Your savings rate is simply the % of your money that you have left after taxes and expenses. For example:
Lets say we have a friend named Billy, who makes his living playing his piano at Italian restaurants around Long Island, New York. If Billy's total income AFTER taxes brings him home $3,000 a month, and he spends $2,500 throughout the month, his savings rate is: ($3,000-$2,500) / $3,000 = 16.6%.
Now, a 16.6% savings rate is actually pretty good, considering the average personal savings rate historically has been under 10% until just recently. Check out this graph below showing the history of US savings rate in the United States from NextAdvisor:
If you're surprised by this data, I wrote more about why we are seeing a surge in consumer savings and improved debt levels in my post week last week, which you can read here.
Alright, so savings rate is the name of the game, and the average rate is about 16%. Well if you're looking to be a part of that F.I.R.E. lifestyle, you will need to more than TRIPLE that savings rate.
At least. The typical savings rate that is recommended for those looking to achieve F.I.R.E. is anywhere between 50-70%.
So if we wanted to compare this to our example with Billy earlier, a person making $3,000 a month after taxes would need to limit their total expenses to no less than $1,500 a month, and preferably even less. Now when you factor in what you spend on rent, food, bills, entertainment, you may be thinking this is unachievable. You may also be thinking, this sounds like it is not feasible for those not in the top % of income brackets.
While it is clear that the F.I.R.E. movement is built on the foundation of hyper awareness to your spending, a high degree of frugality, and a complete focus on saving & investing, you may be surprised to know that the participants in F.I.R.E. typically do not fall in the high earnings bucket, but rather are middle income level earners. The benefit that the participants have in participating in F.I.R.E, even with middle of the road income levels, is that they have our greatest asset on their side: Time. As I mentioned earlier, this movement is primarily becoming popular in younger people, who are awoken to the power of compounding annual interest, investing early and often, and have high savings rates. Notice how none of these qualities I just listed have anything to do with how much money they make.
The end goal of reaching financial independence and retiring early is achieved once your investments are creating enough cash flow that the interest on your investments can cover your annual living expenses. If you are not familiar with what interest is, or the power of it compounding, please go check out my first blog to familiarize yourself.
Playing with F.I.R.E
So lets send it back to our initial example again, where Billy's monthly expenses come out to be $2,500 a month. $2,500 x 12 months =$30,000 a year. In order to achieve his financial independence, he will need to have enough money invested to have it producing $30,000 a year of interest. So how much money is that? What does that look like? Let me show you, using the retirement calculator tool on playwithfire.com
In the below initial chart, I have Billy's example plugged in:
Annual Post-Tax Income: ($3,000 x 12=$36,000)
Annual Expenses: ($2,500 x 12=$30,00)
Savings Rate: 16.6%
Starting Net Worth: $0
So as you can see, he is lining up for a roughly average retirement age. At the age of 62, Billy would no longer have to be The Piano Man, change his daily Scene from an Italian Restaurant, and live off of the interest his investments make him every year. Similarly to his music, Billy's retirement age would just be a little better than average. I want to call out a couple of key factors here:
This chart assumes that Billy's salary & expenses remain the same over every year of his life. While we can expect him to most likely earn more money throughout his career, we are assuming his savings rate is the same, 16.6%.
In this example, we are entering in 7% return on stocks annually, which is slightly under what the average return has been in the S&P 500 since 1950. We are also assuming 2% return on his bonds, and 3% decline in cash over time due to inflation. These are base level assumptions. We cannot predict future returns, and if we could I would not be writing this right now, and would be sitting on the beach in the Florida Keys, with a Miami Vice in hand.
Now lets say we have another buddy, named Bruce. Bruce also happens to play rock and roll music, and plays his gigs down the Jersey Shore rocking out in Asbury Park. Bruce makes the same income as Billy every month, ($3,000) but he keeps his expenses down to $1,500 a month, equaling a 50% savings rate. Let's plug Bruce's numbers for this example:
Annual Post-Tax Income: ($3,000 x 12=$36,000)
Annual Expenses: ($1,500 x 12=$18,000)
Savings Rate: 50%
Starting Net Worth: $0
How about that! As you can see, if Bruce stuck to the plan and invested 50% of his total income, he would be able to live off of the interest his investments generated in just 15 years. Also similarly to his music, Bruce's retirement age is LEGENDARY.
However, while these models, inputs, and charts are great to showcase the power of your savings rate, they don't allow for reality.
The reality of F.I.R.E
As you may have probably realized while reading through these examples, these models are built on the notion that you will forever live off of the annual expense rate that you are living with And as well all know, that is unrealistic. As our lives change, our situations change, and so do our expenses. So no, I do not believe anyone will live off of the same $1,500 monthly budget when they are in their Glory Days at 25 vs. when they are 65. That's not the point I'm trying to make. However, the F.I.R.E. movement has invoked a new awareness to the power of your savings rate, and living below your means.
Some of the most hardcore members of the F.I.R.E. community will take any measure necessary to cut down on expenses, dissecting monthly budgets on food, entertainment, and even electricity. But by no means am I saying we have to start Dancing in the Dark. Maybe it's just limiting your newfound Door-Dash habits to once every other week, and cooking at home more. Maybe it's cutting back on impulse spending on things like new clothes or material things. I encourage you to take a deeper look into your spending habits, and see if there are any opportunities you see to lower your expenses, and raise your savings rate. If we open ourselves up to the importance of our savings rate, and take a closer look at how much money we spend vs. invest, we can make huge strides towards achieving The Promise Land that is our financial independence.
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