The one question most readers have been sending me has to do with The Number. I write those words with capital letters in homage to the financial planning book by Lee Eisenberg of the same name and out of respect for the importance of making sure you have enough before walking away.
The Number is the amount you have in retirement savings divided by the annual spending & investment returns you expect over the balance of your life. Some folks call it your “Screw It” or “F— It” Number, because it represents the amount of money you need in order to tell your boss to plainly “Take this job and shove it”. Simply put, it’s The Number at which you are truly financially independent and can choose to retire early (FIRE) at any point.
Below I will share 8 of the lenses I have used to calculate, forecast, grapple with, an ultimately have confidence in The Number we need to get us to FIRE before Fifty.
First, a little background & caveats: We are not frugal-living enthusiasts. I have respect for those who are, but we have a pretty posh lifestyle compared with most people I see posting their early retirement plans. We’re not using a Number that requires lifestyle changes. Second, our house is bigger than we need, fully paid off, and its value is not included in any retirement planning. It’s a financial life raft if needed, because it’s an asset we could easily downsize. Third, we have worked with the same financial advisor for almost 10 years. He has challenged us and given us objective advice to ensure we are not missing any key elements that should be considered in our planning. Lastly, I would caveat that we understand that the future (potentially 40 years to age 90) brings a lot of uncertainty that we will need to monitor and be flexible for in our spending and investment choices.
That said, how have we come to have confidence in our Number?
1. PAST SPENDING – I’ve been a meticulous analyst of our spending for years. Armed with detailed spreadsheets (and recently supplemented with Mint.com tracking), I could tell you our spending patterns for a decade. This is key to be able to articulate what our lifestyle costs.
2. FORECAST SPENDING – I have also created a post-FIRE plan for major spending items in retirement. This includes our son’s college needs, health insurance, travel desires, future car purchases, and possible warm weather vacation rentals. It’s critical to think of the big rocks ahead of time so you can understand how your spending might change.
3. FOUR PERCENT RULE – I’ve studied and forecasted a lot with different annual withdrawal rates and see the much repeated 4% Rule as a good starting place and benchmark. This means that one should have 25x their planned post-FIRE spending secured – and we do. We are at 28x of our spending number right now (with 9 months to go). We could spend up to 115% of our current planned budget and still be at 25x.
4. MONTE CARLO – Anyone will tell you that past performance is not a guarantee of future returns, but Monte Carlo simulations are a good way to pressure-test your nest egg. There are a few online calculators (see FIREcalc) to do this (and our financial advisor has his own version too).
Basically, the approach uses your savings and withdrawal rates to test against market conditions for every possible outcome from the last 115+ years of economic returns. Then it tells you how often you might have failed (because you didn’t save enough, lived too long, had the wrong mix of cash/bonds/stocks or timed your retirement wrong, ie the Great Depression).
Generally, I’ve understood 85-95% success rates across the possibilities are to be considered relatively “safe”, but I’ve been able to get to 100% in many cases without my assumptions feeling unreasonable.
5. LIQUIDITY – My liquidity test is how long can I invest and hold through a bear market? This is related to the Monte Carlo test, but gets at how much cash can you keep separate from volatile market conditions and still feel good about your investment balance. We are targeting a 36 month cash reserve, which historically has been viewed as adequate in helping investors manage the downside of a tough market.
6. LIFE EXPECTANCY – I have looked at all of the life expectancy data & projections for me, my wife (and either of us). It’s not fun to look through, but important for this. We made sure the plan works 100% until 90, with a fudge factor for 5 more years. The odds of us both exceeding that number are extremely low.
7. RETIREMENT INCOME – This isn’t a test, and is not something we’ve worked at all into our retirement planning, but I have already identified post-FIRE income opportunities that could cover as much as a third of our expected spending without really being obligated more than a few days a month. I’ll want to do some consulting to stay busy, and it will also serve as an extra cushion in early retirement. It’s not necessary, but will be good for fun money.
8. CONTINGENCY PLANNING – My last lens has simply been a test of how much spending could be nixed if our retirement balloon started sinking and we needed to free some ballast to restore altitude. For this, my wife and I could certainly put our finger on as much as a third of our annual budget as pure nice-to-haves that could easily be held back when belt tightening is needed. Putting off a home improvement, overseas trip, or postponing a car purchase would all have a huge impact on annual spending.
So, those are 8 reasons why we have very high confidence in our plans to FIRE before Fifty. I hope it answers some of the questions you might have had or are asking yourself about FIRE.
I would love to hear about what other tests of readiness you have been using.
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