What you need to know about achieving financial independence and early retirement

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Have you ever thought about retiring early… very early? We are seeing a growing interest in the concept of FIRE, which stands for financial independence, to retire prematurely. The FIRE movement is largely one of the young people who plan to achieve financial independence before age 50 and sometimes before 40 or even before 30. If you want to pursue FIRE, here are some things to consider:

What does FIRE mean to you?

In other words, what would you do if you no longer had to wake up with an alarm clock and go to work? Would you like to continue working at a job you find satisfying even if it doesn’t pay the bills or start a risky business? Traveling or spending more time with family and friends? Are you moving to a new area? Your FIRE lifestyle can have a huge impact on how much money you need.

How much will you need to save?

Speaking of how much money you’ll need, saving enough is the biggest challenge to being successful in FIRE, as you typically need to save at least 50% of your income. You can use this popular FIRE calculator to see how your early retirement plan would have performed in each period of your choice since 1871. (Do not enter a comma in your numbers as a special feature is that it treats commas as periods. Mind that you won’t qualify for the full Social Security benefits projected on your statement if you don’t work before you’ve collected, so you’ll want to use a reduced amount.

The FIRE blogosphere (Monsieur Money Mustache is probably the most popular) is full of ideas on how to cut spending, both to save more now and to demand less income in retirement so you don’t have to save as much. Just be aware that many of these ideas can require significant lifestyle changes if you live beyond a college-level standard of living. For example, I live in a small studio apartment that I bought with cash, recently bought a cheap used hybrid car that I usually only drive on weekends, and I don’t have student loans. , children or pets. FIRE is like the financial equivalent of training to become an Olympic athlete. In other words, it’s not for everyone.

How are you going to invest these savings?

If you are planning to FIRE, you may be able to invest more aggressively than a senior with the same number of years before retirement. Higher expected returns may give you a better chance of hitting your target nest egg on time. If your investments are underperforming, you always have the option of working longer. In addition, studies have find that more aggressive portfolios with high equity content actually have a higher success rate than more traditional balanced retirement portfolios over longer periods of time. Just make sure you have a corresponding risk tolerance for aggressive investments.

Of course, the future may not look like the past. One way to have an aggressive portfolio while reducing the risk of running out of money in a bear market is to try and live off dividends during retirement from stocks that have a habit of increasing their dividends over the past 25 years. (Dividend Aristocrats) or even 50 (Kings Dividend) years. If dividends are reduced, you can adjust your income or expenses as needed. Many FIRE enthusiasts also invest in rental property.

How are you going to minimize taxes on these investments?

The high savings rate means you’ll likely be able to maximize all of the tax-advantaged retirement accounts available to you, such as a 401 (k), IRA, and HSA. Use your taxable accounts for your most tax-efficient investments, such as direct real estate (you can write off expenses and depreciation), international investments (you can qualify for the foreign tax credit), and individual stocks and ETFs. These latter investments allow you to benefit from long-term capital gains tax for the winners and reap losses for the losers.

The hardest part is withdrawing your money from tax-advantaged accounts in the event of early retirement without penalties. First of all, you can withdraw the Roth IRA contributions at any time without tax or penalty. Income in a Roth IRA is subject to taxes and a 10% penalty before age 59.5, but contributions come out first. This is why you will probably want to roll all the Roth 401 (k) money into a Roth IRA since Roth 401 (k) withdrawals are a mixture of contributions and earnings.

Second, you can convert traditional IRAs to Roth and then withdraw the converted amount with tax and no penalty after 5 years. (Converted money also comes out before earnings.) Converting money to a Roth IRA every year and then withdrawing it without penalty after 5 years is called a Roth conversion scale.

Planning for FIRE is a lot like standard retirement planning… on steroids. Essentially, it’s about saving a lot more for retirement. However, you may want to speak with a trained and impartial financial planner to make sure that your plan is realistic and that you don’t overlook anything. See if your employer gives you one for free through a workplace financial wellness program. After all, you’ll probably need every penny you can save to make your FIRE dream come true.

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