This is Part 2 of the series on Financial Independence. If you haven’t read last weeks post on Part 1 of Financial Independence, take a second to go look at that because it lays the foundation of what this second post is about.
Last week I talked about the concept about Financial Independence and how it can be achieved and why it is so important for you to consider. This week I’m going to discuss the different types of “FIRE” (Financial Independence Retire Early) as well as the numbers behind it and then end with my goals for this!
There are basically two different types of FIRE, Lean Fire, and Fat Fire. According to Financial Toolbelt, Lean Fire is anywhere from $0-$40,000 per year in spending and Fat Fire is $100,000-infinite spending per year with just regular FIRE being in the middle between $40,000-$100,000. There is no right or wrong one to pursue, it comes down to what your spending habits as a person are and what type of lifestyle makes you happy!
Safe Withdrawal Rate
Let’s start out discussing what the Safe Withdrawal Rate is because that is the basis of the calculation. In an article by Mad Fientist, he goes into great detail about the SWR for Early Retirees and why it is safe. He summed up the SWR saying, “It is the rate that you can withdraw from your portfolio every year that ensures you have a high probability of never running out of money. The SWR of 4% per year (inflation-adjusted) is the rate that Trinity Study researchers recommended for 30-year retirements and is the rate you most often see quoted."
He also said, "The safe withdrawal rate actually has a 96% probability of leaving more than 100% of the original starting principal! In fact, even when starting with a 4% initial withdrawal rate, less than 10% of the time does the retiree ever finish with less than the starting principal. Over 2/3rds of the time the retiree finishes the 30-year time horizon still having more-than-double their starting principal. It’s overwhelmingly more likely that retirees will have opportunities to ratchet their spending higher than a 4% rule, than ever need to spend that conservatively in the first place!” Because he focuses on people who want to retire earlier, he found with further research, people who retire early and have time horizons of 50-60 plus years, you can use a SWR of 3.5% and that is considered the floor no matter how long your time horizon is.
As we said earlier, if you are in this group your annual spending is anywhere between $0-$40,000. This means you are living very frugally, have a minimalistic lifestyle and your spending habits are very controlled. So, if you want to live off of $40,000/year for your retirement how much do you actually need? The math is simple.
For Lean Fire they recommend 25x annual expenses, so you just take $40,000 * 25 and the amount of money you need is 1 million dollars! Or you can do $40,000/ .04% and you will come up with the same number. The biggest thing to remember is that it is based on your annual EXPENSES and not your annual income.
The good thing about Lean Fire is that you will be able to retire much earlier because you don’t need as big of a nest egg. If you don’t think your expenses are going to increase for the rest of your lifetime and you have a strong discipline with your budget than this may be for you! Some criticism that this gets is that you may not be accurately taking into account all of the expenses associated with not working anymore. Health Care costs are rising every year and that is something that if not budgeted for can ruin your financial position. Also, in the case that an unexpected emergency comes up or if the market performs very poor, your nest egg could be drained severely. These are just some of the things that you have to think about.
Fat Fire on the other hand usually has yearly expenses starting at $100,000-infinity in annual spending. To look at how much money you need if your expenses are $100,000/year, $100,000 * 25 = 2.5 million or $100,000/year divided by .04 = 2.5 million. People who are in the Fat Fire group usually have higher income jobs, businesses, or other side hustles which have allowed them to save and invest a lot more money. You will probably be able to enjoy more of the nicer things in life and while you won’t be able to have everything you want, you can certainly enjoy more of the things that truly make you happy. Fat Fire can act like a buffer because you have more of a cushion compared to people pursing Lean Fire. If you have a big medical expense or the market has a really bad year, you have the ability to cut back on your spending in ways Lean Fire can’t because their spending is already cut back as much as possible.
Why I’m Pursing Fat Fire
For me pursing Fat Fire lines up more with my goals and the life that I want for myself. My dad always told me that you better make a lot of money because you like nice things! All jokes aside I would also rather be safer and have more peace of mind that if hard times were to come I could always reduce my spending as well as live very well if I decided not to work anymore. It will also keep me focused while I am pursuing it because it will force me to be creative and come up with new businesses, revenue streams, or outlets for me to make money. While I know that money doesn’t necessarily equate happiness and you shouldn’t let the pursuit of money be the number one focus in your life, this is another goal for me and achieving Fat Fire will give me more options with having the life I want.
It's hard right now to know what exact number I have to shoot for because this is my first year having a job and because I am playing professional basketball overseas, I don't have the same expenses that I would have back in the U.S. if I were working a more traditional job. But as an estimate, my goal is to have a range from $1-3 million/year in cash flow. It is a goal I see myself accomplishing by having a plan, working hard, and being focused and dedicated. Another key is as your going along your journey to achieving FI, don’t forget to enjoy the process and your life along the way. If you like to travel, save up and do it. While it may mean you work a couple years longer, if you are okay with that and it’s something that brings you happiness you should do it. Life is all about choices and at the end of the day, you have to live and be okay with the choices that you make because your life is yours and it’s up to you how you want it to be!
I hope you enjoyed this 2 part post and learned a lot about this concept. For me as a 22-year-old just starting out working, this was eye opening and I look forward to tracking my progress and sharing it with you guys along the way! If something in this post stuck out to you or you have a question, please leave a comment below!