I’ve been thinking of retiring early for quite some time now. I have accumulated a reasonable “nest” (invested in the stock market) that is providing me with a significant amount of investment income. Way not enough for a living, but enough that I started thinking: “Hey, if I keep doing that, I could retire in much less than 30 years… who knows, maybe I can retire when I’m 55 or something. That would be awesome” (I’m 33 now).
But that got me excited to try to retire much earlier, searching google for terms such as “how much do I need to retire” or “when can I retire”. The thing is, most of the search results for those look at your current income, assume you will need 80% of it once you retire, and also, maybe more importantly, don’t assume that you will be retiring before 50 or 60.
The result of those searches is usually depressing to me. They basically show me that even though I’m fairly rich compared to people my own age, I’m still a long way from being able to live solely on passive income for the rest of my life.
Even more often, I’ll end up finding sites that try to teach you how to become a successful person, making hundreds of dollars a day “working from home”.
I’ve been there, being myself a website owner and doing some side income with advertising networks such as adsense. Spending days and days trying to optimize my websites to increase my advertising revenue, to reach the impressive levels of sites such as smartpassiveincome.
When discussing with friends the topic of retiring early, they all draw the conclusion that this is an insane project. One of my friends told me “you’d need approximately 10 million dollars to retire comfortably”. I simply can’t begin to believe this number. When I told him he was unnecessarily cautious in his estimates (he’s an upper-middle class guy, his household makes about $150’000 a year), he told me: “no, because your lifestyle increases with your salary, meaning you need pretty much need more and more as you grow older and your salary rises. It makes it impossible to retire early, unless you want a shitty life”
The “25% of Income” extreme early retirement school of thought
I think that’s when it struck me: I don’t really have an expensive life, I am not interested in super expensive stuff in general. That friend, however, is. He goes on expensive vacations and trips all the time. And I realized I’ve been looking at all these retirement numbers from the perspective of an entire society that assumes people spend money in a way that is aligned to their income. Most people think that the more they make, the more they can spend, and the more they spend, the happier they are. Mr Money Mustache’s blog rants on this subject much better than me so I suggest you check it there, but my conclusions were the same that he must have reached a decade ago: To retire early, the only way is not necessarily to make more money faster. It’s also possible to significantly decrease what you’re spending! None of the websites trying to compute when one can retire will ever mention that to you. They all assume you want to act like a billionaire when you’re not.
Basically most “get rich quick” and “when can I retire” sites, assume that you’re expecting to spend more and more as you get richer. Your expenses follow your income, in a way similar to this:
If you follow this pattern, you will never retire early, you will keep chasing a moving target.
But there is another school of thoughts saying you should strive to reduce your expenses first. The pattern would look like this:
Some of these young retirees claim that you can even reduce your expenses enough that your income can also significantly be reduced (for example, by retiring early) without impacting your lifestyle.
This sounds fairly obvious: a way to save more money is not only to make more, but also to spend less. But it’s easier said than done. If you believe one of these “frugal lifestyle masters”, Mr Money Mustache, people are brainwashed into believing that the more they spend, the happier they are.
Now, what does it mean to reduce one’s expenses? Several people have several ways of looking at it, and I advise you look at Mr Money Mustache’s blog above to get a better idea. although to some people this really means reducing one’s pleasures to the max, I believe there is a “middle ground” that can be reached.
The logic is fairly simple: imagine you can reach a lifestyle where you spend 25% of your income. This means you’d save 75% of your yearly income. (Note that this represents 3 years of expenses for you and your family now). Assuming you save these on a reasonably high return index fund, and withdraw 4% yearly (the “safemax” rule of thumb value). The math is simple: how much money do you need at 4% return, to live only on your interest? You’ll need 100 / 4 * Yearly expenses, in other words about 25 times your yearly expenses, to ensure a nice nest. Now, if you go back to the point where we said you were able to save 3 times your yearly expenses every year (75% of your income), it mean you can retire within 8 years, independently of when you start this plan.
Is it actually possible to spend only 25% of one’s income? Yes, and it means retiring within 8 years is possible with this plan, but it assumes a dramatic change in one’s way of life.
Now, and this is essential, this lifestyle needs to be achieved somewhat in a way that you can enjoy it, it should not feel like a sacrifice, and many people might not have the required frugality to achieve this (although, once again, according to Mr Money Mustache, for most people in the middle class, spending 25% of one’s income should be easily achievable without making any major sacrifices).
Is there a middle ground to this? I quickly checked, and I saw that my family spends about 50% of what we make yearly. My wife and myself are frugal by nature (we rarely go out, we prefer to buy furniture used rather than new,…), but we’re not paying that much attention to how much we spend. Should we change? Based on the math above, since we save 1 year of expenses every year, I would need to work 25 more years before I reach the financial independence I’m dreaming of. That’s much longer than 8 years, but that makes the goal of being frugal less difficult to achieve on my end. Someone who saves “only” 25% of their income (and spend 75 % of it) would, by comparison, need 75 years of work to reach the “infinite interest” loop I am talking about. Basically the dream of early retirement is gone if you spend more than half of your revenue.
To retire within the next 8 to 15 years, you need to reach a lifestyle where you spend 25% to 40% of your income, (or, in other words, save 60% to 75% of it). That lifestyle needs to be achieved in a way that you feel comfortable with it. This is not about “racing” to the finish line to then start spending like crazy again. The math works only if this lifestyle is something one is confident with.
There are two ways to save 60% of one’s income: get a huge raise, or start spending less. Although most people don’t think too much about it, it is way easier to start spending 10% less yearly with minimal changes in one’s life, than to get a 10% raise in your job.
It is worth mentioning that if you actually become more frugal (kin the short term) than you can achieve (long term), it’s another way of saving much more initially, to maybe gather a much more comfortable nest, which would then give you either a security margin, or allow you to spend more moving forward.
I’ll describe my personal financial situation in a later blog post. I think I’m in a good position to spend more than 25% of my income, but I’ll still try to reduce some of my expenses and see if that works. The main point remains: someone who starts with 0 money saved today, could still retire within 8 years (assuming a reasonable middle class job), if they start saving 75% of their revenue.
Doable? We’ll see!