There’s a ton of new Mr. Everyday Dollar readers (welcome!), so I wanted to take an opportunity to cover the general idea of early retirement.
How do you feel about the job you’ve held for the past 15 years. The one you now loathe going to, that doesn’t challenge you anymore, and is maybe soul-sucking? Or, do you find frustrating that every morning, five days week, your inbox is full of emails asking you to do things you don’t really want to do or presenting you with shitty problems that have somehow become your responsibility to solve?
What if I told you that by making the choice (yes, it’s a choice!) to become financially independent, you could be the sole decision-maker on who you work with, what you work on, when you work, or even if you work at all?
Sounds pretty good, right?
Or course it does! But becoming financially independent isn’t easy. Accumulating enough money to live on for the rest of your life may seem like an insurmountable goal, but I assure you, it is doable. The truth is it takes self-discipline, hard work, conscious decision-making, and the ability to be okay with living an unconventional life. But the result can and will be that no one has any authority over your life but you!
Why retire early?
This is the first question you have to challenge yourself to answer: Do I want to retire early? And if so, why? The reasons why I chose to make financial independence a top priority in my life were:
- Complete freedom to explore skill sets, interests and hobbies; and not be pigeonholed into one job forever.
- Time to share and help others lead a richer, fuller life by choosing minimalism and frugalism.
- The ability to lead an exciting lifestyle that allows me to travel and live abroad whenever I want and meet amazing people in the process.
Some people might not have any reason to retire early. That’s okay. Perhaps they truly love their job and find it fulfilling or perhaps conquering the corner office is the top priority in their life.
Can I do it?
The answer to this question is that yes, it is realistic. Some people have done it in their late 20’s, a few more have done it in their 30’s, and many have done it in their 40’s.
A question I receive frequently from readers is, “How much money do I need to retire early?” The math is actually quite simple to compute this answer:
Your annual expenses x 25 = How much money you need
For example, if your annual expenses are $20,000, then you need $500,000 ($20,000 x 25) to consider yourself financially independent, and have the choice to retire early.
Whatever your amount, it needs to be in income generating assets so you can’t count your car, your house, or your stamp collection. Income can come from things like stocks, bonds, REITs, MLPs, or real estate, but the best solution for most folks is to park their extra money in Vanguard funds.
Where does the 25 in the calculation come from? The general rule is that 4% is the “Safe Withdrawal Rate” (SWR), so the 25 comes from taking 1.00/0.04.
Using the above example, the SWR means you can safely withdraw 4% a year from your income generating assets ($500,000 x 4% = $20,000), and you can do this every year until you die.
So what’s the plan?
Now that you have your number, you’re probably wondering how you can possibly save that amount of money. People may have different starting places, but the great thing is that the plan is the same no matter if you’re in debt, you have little to no savings, or you have a hefty $200,000 saved away.
There are two factors that will accelerate reaching your number (or if you’re in debt, paying that off first): Reducing expenses and increasing income.
The first factor is to reduce expenses dramatically. There are books and blogs like this one that cover cost-saving tactics like lowering your property taxes, choosing a low-cost High Deductible Health Plan, and drinking delicious box wine, so I’m not going to spend much time on how to do it. Just know that you have to look at all your expenses and start challenging yourself to live with less.
The second factor is to increase income. The most successful way to do that is to start your career debt free. Then, throughout your career don’t limit yourself to measly raises, instead learn how to negotiate huge raises (my buddy Ramit Sethi does this the best).
About half of Americans live paycheck-to-paycheck. This means that expenses are high relative to income, which also means that savings are low relative to expenses. If you truly want to retire early you have to avoid the paycheck-to-paycheck model of matching expenses to income, and live on way less than you earn.
This is what you want your expenses, income, and savings to look like:
Do you want to guess what year I made the decision to put everything I had into becoming financially independent? It’s pretty obvious it was 2010, right? The first steps I took were to begin tracking all expenses and income so I had a picture of where I was and where I needed to go.
Then I made the effort to start reducing my expenses by cutting cable TV, quitting my daily coffee shop habit, packing my lunch every day, and living on $100 a week.
For some it might mean moving closer to work, downsizing into a smaller home, even selling off a car and taking public transportation.
The point I’m trying to make is that you have control over your expenses and income. If you keep your expenses flat, every extra dollar of income you earn will fall directly to your savings. And every extra dollar you reduce your expenses by also falls directly to your savings.
Reduce expenses, increase income and your savings rate will skyrocket, putting you on the path to early retirement.