You are on part 2/9 in the Level 1 – The Basics Series covering the 7 concepts of early retirement. Next up: Income
· Why Retire Early?
· The Basics – Overview
· Withdrawal Stage
· Your Life In Retirement
Now that we have an understanding of the benefits of why you should retire early, we move on to how to achieve it. Most people go through life with little conversation about how they will retire, which I find odd. Think about it, we work our entire life to pay bills, commute to work, sit in an office or other equally frustrating establishment while our money slowly grows until we arrive in our mid-60s. What would happen if high schools and colleges taught as many classes on personal finance as they did history and english? My guess is that people would follow a dramatically different path after college graduation, one that did not include 30-40 years of work.
If you understand the basics of how to master money and commit yourself to the task at hand, in 10-15 years you will be free.
Below is an introduction to the seven fundamentals of early retirement. Master each and you can plot your path towards financial independence and early retirement with confidence.
Let’s get started.
For 99% of humanity, an income will be required to make your way towards early retirement. Those lucky enough to inherit a business, a fortune, or even win the lottery, congrats…and have fun. The rest of us must work to earn an income.
Some savvy people in personal finance put savings rate and spending rate as the top two points of focus to achieve financial independence. I suppose it is true, you could save 90% of a small income and only spend $20,000/year and you would be free in no time! Mrs. RME and I, on the other hand, do enjoy spending more now and then. I prefer a more moderate approach to reaching financial independence before 40, while also spending money on experiences today. Other more frugal approaches are certainly acceptable, but we prefer an approach that balances enjoying life now while also gaining our freedom at an early age.
The key to successfully navigating a moderate approach to early retirement before 40 is to drive your income as high as possible, as early as possible.
There are several keys to optimize income:
1. Get a good education, college degree preferred in a discipline that makes good money (ex. math, science, accounting and business, computer or tech related focus, etc.). If you don’t have a degree in a lucrative field, no worries. Keep reading below.
2. Don’t settle for a job. Always be looking for something better. If you are a hard worker, proficient at your job, and can network, someone out there will likely pay you more to do the same job. Don’t hesitate when an opportunity opens.
3. Don’t be afraid to step out of your comfort zone to try new things. A side hustle, a new industry, even blogging! The possibilities are endless. Be bold, try something new, life is short.
4. Invest early and invest often. Good investments either grow in value or generate profits. This profit is supplemental income, driving your total income higher. It is never too early to begin building extra income streams.
More on each of the above in future posts.
Now that you are thinking about income, next comes savings, specifically savings rate. It’s nice to make more income, and it certainly helps the early retirement cause, but without a high savings rate, you are just on the high income treadmill forever.
Simply put, the higher the savings rate, the faster you can reach retirement. MMM wrote one of his most popular articles regarding savings rate and the power it has on how long it takes to reach financial independence (The Shockingly Simple Math Behind Early Retirement). For me, a good savings rate is around 50% of your take home pay. Any bonuses, of course, would be saved at 100%. If you are lucky enough to get a $5,000 bonus, go buy some high quality filets, sear them on the grill, and call it a day. $4,960 heads into savings. THIS sort of approach is what really accelerates financial independence.
However, a note of caution from both personal experience and from reading plenty of other experiences. Don’t fixate on savings rate so much that you miss out on all enjoyment in life. Trust me, this can happen quickly. I’m not saying go crazy, but do go out and buy a few good filets every now and then. Everything in moderation.
Directly tied to the concept of savings rate is spending. How much you spend drives your savings rate. Not rocket science, but some never put the pieces together. I view spending in three buckets:
Big ticket and Bills refers to, well, big ticket items and bills. See, told you I would make this easy! Under this category falls housing, transportation, utilities inclusive of cable, internet, cell phones, and food. This is the vast majority of your spend, and it absolutely has to be optimized. Buy a house that is too big? Fix that, pronto. Upgraded your car just because your last one was three years old? Bad move. Go several years without checking your rising cable or internet bills? Lost money! These items are so important that I’ll have an article for each in the future.
Discretionary spend refers to things you don’t need but just plain want. A stop at Starbucks, new hiking boots, or even a few good steaks. These items are critical to splurge on and purchase from time to time. Without them we begin to feel deprived and can even become depressed. This can lead to big ticket bad decisions due to feeling deprived. Go several months without any discretionary spending and you might just end up with a new car. Don’t believe me? When was the last time you went to the grocery store with an empty stomach? You arrive feeling famished and leave with a cart full of junk food wondering what happened. The physiological impact of deprivation is real and can happen to you. DO spend on discretionary things, DON’T do it every day and don’t do it on big ticket items.
Experiences and Entertainment. This is where Mrs. RME and I differ from most financial advice out there. I would advise that you take that cruise or trip to Europe before worrying about meeting your savings goal on a given year. This of course in moderation too, but in general, I value life experiences above all else. The whole point of early retirement and financial independence is to be free so you can do what you enjoy most. Spend time with friends and family, travel the world, or anything else for that matter. If you have to put those experiences on hold for 10-15 years while you focus on saving for early retirement, something doesn’t seem right. Who knows what sort of energy you will have in another 15 years, or what condition your body might be in, or forbid something worse. All I know is that the older I get, the more I realize how fleeting life really is. I want to live my life to the maximum and sometimes that requires me spending money. Money is a tool, and you should use it when prudent. Everything in moderation. Be sure to find YOUR balance of spending and saving.
Check our Travel posts to find out more about our travels!
Debt is bad, enough said. Well, usually bad…but it can be good! Ok, some things aren’t quite as straightforward, but we can talk it through. Debt can delay your early retirement significantly if not taken care of right away. If you have debt and paying interest at a 5-10% rate, or worse (gasp!), then you are making no progress at all. Here are the buckets of debt:
· Credit Card Debt – Never acceptable. Pay it off immediately.
· College Debt – Not acceptable a few years post graduation. Pay it off next.
· Home Mortgage – Acceptable (on a reasonable size house), and can be an accelerant to your early retirement goals if you do it right.
· Car Loan – Not acceptable, unless it is a 0% rate. If above 0%, pay it off.
· Small Business Loan – Kudos on trying something new. Often necessary to get off the ground, and can be a great wealth building tool. But don’t go too big to start.
You don’t actually have to invest to reach early retirement. You could theoretically save all your money, stuff it under the mattress until you have so much you can just spend until you die. This would take forever and is not a reasonable approach.
The reason you invest is because long-term investments make money.
The money made on investments then makes more money, and so on. This is the magic of compound interest. Compound interest is literally your best friend, deserving of a statue in the front yard, and worthy of entire posts by itself. Investing allows you to take advantage of compound interest…money making more money, and so on.
What sort of investments are out there?
· Stock Market – Index funds
· Bond Market – Index funds
· Real estate – Rental properties
· Savings Account (cringe)
· Lots of other funky options
For most people, investing in stock market index funds is the way to go. It is the most reliable and powerful wealth building tool at your disposal. Good news too, it is super simple, and something everyone can master. We will go into much more detail about investment options.
After you have saved and invested for several years, your investments can then be sold using the 4% rule, or might even generate passive income to cover your expenses. There are endless ways to organize a withdrawal strategy that will work for you.
Here are just a few examples that will be discussed in much further detail in future posts:
· The 4% rule. You sell down 4% of your total investments each year to cover your expenses. For example, if your investments amount to $1.5 million, you can sell $60,000 a year (4%) and feel confident that you will never run out of money.
· Don’t feel like waiting until you have that much saved to retire but still want to spend $60,000 a year? Save just $750,000, sell 4% each year to give you $30,000. Work a part-time gig with your significant other to generate just $15,000 a year each with a side hustle or hobby. If you go this route, you could drop that 9-5 in no time.
· If you aren’t as comfortable selling down your portfolio, you could also invest in a blue-chip stock dividend index fund full of top notch companies such as McDonalds, Walmart, and Microsoft. They typically pay out more than 3% in dividends each year. This would provide a nice chunk of cash to spend in retirement, while not having to stress over selling down your portfolio.
· There are literally endless options that will work for you!
As with all parts of this retirement journey, you can be creative and use the tools available to make a strategy work for you. I look forward to exploring different methods and approaches with you in the posts to come.
Last of the seven, but so frequently overlooked is putting thought into what your life will look like in early retirement.
· Do you want to travel? How long? How much will it cost?
· What will you do with your days? Have hobbies?
· Will you be ok if you don’t feel productive? Many people struggle with this.
· Will you be ok without the socialization a typical 9-5 offers? Again, many struggle with this.
· Would you stress over drawing down your investments that you worked so hard to build?
These are just a few of the most common concerns early retirees face. Folks put so much energy and effort into optimizing their financial lives that they completely forget about the effort required to optimize your early retirement life. DO NOT discount how much effort it will take to get your mind prepared for early retirement. Start preparing years in advance and have a plan in place, as it will be a dramatic life change, one few others will be able to relate to.
Every journey in life takes planning and preparation, including retirement.
This will be an amazing time in your life and you want to enjoy every moment!