I’m thinking about financial independence all the time, it’s like a healthy obsession. Recently, I was really focused on what financial independence really means because all of us have our own definition of what it takes to become financially independent. There is a common definition that I use all the time for simplicity, but there really is a spectrum in Financial Independence, and Retiring Early (FIRE).
So, what does financial independence mean to you? It is important that you ask yourself the question of what does financial independence means to you because your path to financial independence could have a different meaning and therefore a different goal from someone else that is on their own path to financial independence.
It is important for you to come up with your own specific definition of financial independence so that you can have a specific goal to work towards. There are also many commonly known subsets for FIRE such as Barista FIRE, Fat FIRE, and Coast FIRE that you should be aware of.
What Financial Independence Means To Me
My personal definition has changed drastically over time as I have done more research, and spent more time reflecting on the concepts. It may even change again in the future after I write this. Currently, I believe that financial independence means:
“Having the flexibility to live your life where you are not restricted by your employment status.“
It’s a pretty broad definition, but I believe it gets my thoughts across pretty well. To me, financial independence is mostly about flexibility and control over your time. You can achieve this flexibility in many different ways, which is great because that means you have options. The more options you have, the more powerful you become.
I used to think that it was a requirement to amass a large fortune and then slowly withdrawal from it for the rest of your life and never have to earn another penny. My thoughts on that have changed as I have grown to realize that it’s unrealistic to never earn money again, especially when you are trying to achieve financial independence in your 20s, 30s, or 40s. I believe that you can become financially independent and still work.
The work that you will be doing might be completely different because you are doing that work for a different reason. Most people in this world get up every day and go to work because they have to make money. If you have even a decent amount of wealth invested then you are already in a position of power to potentially shift careers, pursue travel, or just take an entire year off.
The point is that I believe you need to create your own definition of financial independence, your own goal, and follow your own journey. You can use the baseline definition like I commonly refer to, but it is certainly not a requirement. Financial independence is about taking control of your financial life, and today in this article I intend to help you do that.
There Are Stages Of Financial Independence
The first and probably most important thing to mention about FI is that there are many stages to achieving it. These stages begin very early in our lives, and it is up to us to progress and reach these individual stages before moving on to the next one. There are three main stages of financial independence that you could refer to.
The First Stage Is Becoming Financially Independent From Your Parents
This is one of the first and most important financial goals that any young adult has. It is the first major shift from dependence to independence. It is important for everyone to first be able to financially support themselves without the aid of their parents. It is very scary at first, but it is vital for financial and mental health. This is not the kind of financial independence that I talk about, but it technically is a step to becoming financially independent.
The Second Stage Is Becoming Financially Independent From Your Spouse
The primary goal of becoming independent means that you are not dependent on anyone else, including your spouse. Now, there is nothing wrong with single income earner families where one spouse stays home and takes care of the children instead of working, but they need to be compensated for that job too. No one spouse should be completely financially reliant on the other for obvious reasons.
I do believe that combining finances is a great way to simplify them, but it can only work if both partners have the same ideals and goals about money. I do not intend to go in-depth on marriage and finances, but part of becoming financially independent is having some kind of financial means to provide for yourself in a worst-case scenario. Again, there is nothing wrong with combining finances, and single-earner families, but there does need to be some kind of way to split up finances at some point with separate investment accounts, savings accounts, spending budgets, etc.
The Third Stage Is Becoming Independent From Active Work Income
This is the ultimate goal for most people on the path to financial independence and is perhaps the highest amount of financial security that most people can reasonably expect to achieve in their lifetimes. Just remember, that just because you seek to become un-reliant on work income, it does not mean that you can never work, or shouldn’t work. I believe that you can be financially independent and still work if you want to.
The nature of that work, however, may change in several different ways. Instead of working at a job you hate, you can work in a job you reasonably enjoy doing. You could start a business and become self-employed. You could negotiate much better terms at your current job that make it enjoyable because you have the economic power to do so. Not HAVING to work for money is a very powerful tool to have.
Another thing to take note of is that there are milestones within the path of becoming independent from work income. In fact, if you are interested, I wrote an entire article that documents 6 major milestones of FI. Those milestones follow the traditional FIRE goal and the 4% safe withdrawal rate, but what I want you to understand from this article is that your own goal can be very different.
There is no one way to financial independence as you will find out shortly within this article. At the same time, it is important that you develop your own personally tailored goal because we all want something a little different from our FIRE journeys. In fact, what you might be after is not really considered financial independence at all. That is OK because I want to help guide you in figuring out your real financial goals.
Developing Your Own FIRE Goal
When developing your overall financial goal, one of the best ways to get started is to ask yourself some important questions and answer them honestly. What you might find afterward is that your goals don’t really fit into the standard financial independence path. That’s perfectly normal since financial independence really is a spectrum and there are many subsets of FIRE that may fit better into your world view.
Try out these questions to get started:
What do you want out of life?
The broadest question goes first, and for good reason, starting at the base of the pyramid and slowly working your way up is important because it helps you narrow down your response once you get to the top. This is probably one of the most difficult questions to answer because many of us don’t know, but give it a shot.
What do you do outside of work?
This question should be a little bit easier to answer than the first one. This will help determine if you want more time to pursue any of these activities. Think of your interests, hobbies, how you spend your free time, etc. Even if you don’t do the activity very much or very often, would you like to spend more time on it?
If I were answering these questions I would say that I enjoy being outdoors on a nice day. I like to go camping, hiking, fishing, and swimming. I also enjoy spending time with my family watching movies, playing games, and eating together. I like to work on myself by exercising regularly, educating myself, and working on my online business.
What do you want to do, but can’t because of work commitments?
Let’s face the hard reality here, work can sometimes get in the way of our goals and dreams. Try to find out what you are not doing because you spend so much time at work and commuting to and from it. Ask yourself if your current work situation is holding you back from something you would rather be doing. Think bigger than from the second question.
If I were answering this question, I would say that I want to travel long term. I want to travel internationally slowly and for a long time in order to experience different cultures, see new things, and learn more about myself. I also want to visit and spend more time with my extended family, the ones I hardly ever see perhaps because of location differences and/or dual work commitments.
What would you be doing if you worked for free?
I want to start by saying that I do not believe that there is a perfect job out there. Whether it be from an employer or from your own business. There is always going to be ups and downs in any kind of work that you do, it’s just natural. However, there certainly are occupations that are more enjoyable to you and me based on our individual tastes and interests. Some of our interests may not pay very well and that is probably the reason why we don’t do them for work.
But what if money was not a major factor in our decision? What kind of work really sounds like something you would enjoy doing most of the time. This is highly individualistic, so only you can honestly answer this. It could be anything you want like a sports coach, photographer, kayak instructor, tour guide, etc. Think critically and be honest, what would you enjoy doing (most of the time) for free?
If I were answering this question I would say that I have a passion for helping everyday people gain control of their financial lives. I have a passion for personal finance in general, especially when it comes to everyday people and their struggles. If money were no issue I would have no problem helping solve financial problems and educating others on how to gain control of their personal finances.
What is your time frame?
If you are just getting started on your financial independence journey then you might need a longer time horizon than someone that has been carefully and diligently investing for several years now. Where you are now is not as important as where you want to go, but you need to reflect on how much time you want to give yourself to get there. That time frame may change over time, that is no problem. We all have different situations, different goals, and different goas. You will learn how to structure your financial goal in just a few more paragraphs.
Do you want to retire forever?
Asking yourself this question will determine if it is absolutely important that you technically will never be required to work for money again. Generally, this means following the 4% safe withdrawal rule and applying it to your life. If you have $1,000,000 and spend $40,000 per year or less then technically you should never have to work for money again. Now, whether that is true or not is unknown since we do not and can not know what the future will hold.
We don’t know if our return on investments will be what we projected, we don’t know if inflation will be what we projected, and we don’t know if we can for sure spend at or below our targeted amount every year for the remainder of our lives. There are many unknowns, but that applies to our entire lives, so there is no need to fear the unknown. Do not let uncertainly steer you into a life of regret. Instead, ask yourself if it is truly necessary for you to accumulate your fortune all at once before you can enjoy the fruits of flexibility and more control over your time.
If I were to answer this, I would now say no. It is not necessarily important for me to have the means to retire forever. I know that I probably have a really long life ahead of me and I know that so much can change for me in that timeframe. I have shifted and refocused my financial goals accordingly. I am not going to completely wait until I hit that magic number before I start enjoying flexibility and control over my time.
Make A SMART FIRE Goal
When you are developing your own FIRE goal, it is important that your goal has some structure. One of the most well-known criteria for developing goals is known as SMART. Besides being cleverly arranged, I believe that this goal structure holds some merit. It has its criticisms, but it has worked well for me, and I think it can work well for most others as well. SMART stands for Specific, Measurable, Attainable, Realistic, and Time-Bound.
Be as specific as possible with any goal that you make, including your personal finance goals.
Your personal finance goals should be measurable, which means there should be numbers attached to your goals. This is relatively easy because you can attach currency amounts like $USD.
Your goal should be possible for the average person that is willing to work hard to achieve it. The goal needs to be something that is within our realm as human beings.
The goal needs to be realistic for your situation. Realistic goals can vary from person to person because we all are in different situations in life.
Attach a deadline to your goals. This keeps you honest and forces you to make efforts to reach your goal.
FIRE Is Cheaper Than You Think
It’s always important that I talk about costs with anything that has to do with financial independence. When you are developing your own goal, do not forget that your FIRE goal can cost a lot less than your present lifestyle. You should be able to compare your future expenses to your present expenses and alter your future budget to be less than your current one with some easy steps.
The most pronounced expense decrease is transportation. No longer having to commute to a job can save you a lot of money. The IRS lets businesses deduct $0.58 per mile driven for business in 2019. They calculate that rate based on many factors included in the costs of driving. You can take that cost and approximately estimate your own driving costs. If you drive 15 miles one way to work, 30 miles roundtrip, 5 days a week, and 4 weeks a month then you drive about 600 miles a month for work and it costs you about $348 a month.
That’s pretty significant, but another significant transportation expense that is reduced when you are financially independent is reducing your family’s cars down to one. A one-car family can completely eliminate the costs of owning a second vehicle (which can be significant). You could also move somewhere more affordable because you do not need to be close to work.
Age Doesn’t Really Matter With FI
It’s called retire early, but financial independence should be the focus, not just retiring early. The standard definition of retirement means to cease working, but it doesn’t have to be that way for you. Focus your efforts on becoming financially independent or work on gaining more financial security so that an employer does not hold that power over you.
If you want to be considered “retired” by the traditional sense then you are going to have to wait until age 67 if you were born after 1960. This is according to the Social Security Administration (SSA) in the United States. However, if you are not financially independent and you choose to retire at that age and cease to work then you are going to have a rough retirement if you have very little in assets to support yourself. The average social security retirement benefit in October 2019 was just $1,430.16 per month according to the SSA.
$1,430 is a really tight budget to stretch in a lot of areas. It’s definitely possible since millions of people are already doing it, but another problem is that Social Security is subject to change at any time. Those benefits are completely out of your control, unlike your personal assets. Whether you want to retire in your 60s, your 20s, or any age in between, you need to focus on building wealth and/or creating income streams so that you are financially secure on your own.
You Don’t Have To Be Debt Free, But It Helps
The less debt you have, the more in control you are. Debt is a fixed expense, and one way of successfully becoming financially independent is reducing fixed expenses. You can be financially independent and still have debt if it is calculated into your monthly/annual budget. However, eliminating nearly all of your debt before you declare financial independence is probably a really good idea.
This is because having less fixed expenses makes your budget more flexible. Flexibility is always a good thing because it can aid you in maintaining your assets in times of economic downturn and when unexpected large expenses may arise.
The 4% Rule Is A General Guideline For FI
The gold standard in the financial independence community is the 4% safe withdrawal rule that is based on the 1995 study that was nicknamed the “trinity study”. It basically says that if you withdraw 4% or less of your assets per year then your assets should last you a lifetime with optimal stock/bond asset allocations.
The 4% rule is a great goal to follow for achieving financial independence, but it’s not the only option you have. I started out my FI journey by firmly believing in the 4% rule and working to achieve it. I still have that goal in my mind, but I have geared myself more towards a Barista FIRE goal. As you are about to see, there are a plethora of ways you can become financially independent and more financially secure.
Financial Independence Is A Spectrum
There are several different ways to reach financial independence. If you need some ideas then check out this article I wrote that lists 7 popular and successful paths. I will discuss some of the subsets of traditional financial independence. When I refer to traditional financial independence I am referring to accumulating enough wealth to utilize the 4% safe withdrawal rule. Here are some other common ways you could structure your own goals:
Barista FIRE essentially means that you still work part-time. The part-time work can be a regular job, temporary jobs, seasonal jobs, or anything in between. Barista FIRE can be accomplished much faster than traditional financial independence while still giving you a lot of freedom and flexibility. Some people love Barista FIRE since some part-time jobs offer full-time benefits that make the part-time worth it. The most notable benefit is probably health care. The name “Barista” developed because the coffee company Starbucks offers amazingly good benefits for part-time employees. If Barista FIRE interests you then you might want to read the full article that I wrote explaining Barista FIRE in full detail.
Fat FIRE follows almost the exact same guidelines that traditional financial independence follows except that you have a much larger monthly/annual budget and you follow a more conservative 3% withdrawal rate. Basically, you are going to need to amass an even larger net worth than you would with the 4% safe withdrawal rule. Fat FIRE is geared towards very high-income earners. If Fat FIRE interests you then you might want to read the full article that I wrote explaining fat FIRE in full detail.
Coast FIRE is a little different because it focuses on temporarily saving a large amount of money initially, and then letting the power of compound interest grow your net worth exponentially. Coast FIRE usually has a longer horizon to becoming financially independent because it takes compound interest several years to work its magic. An example might be investing $100,000 quickly and then waiting 30 years to retire and watching it grow to over $1,000,000 in that time frame. Coast FIRE emphasizes the power of starting early and it reveals the magic of compound interest. If it sounds good to you then you might want to read my full article on Coast FIRE.
FIRE with Passive Income
Using passive income to become financially independent is a little different since instead of focusing on net worth, you focus on monthly income. The goal is to create enough income sources to replace your monthly spending needs. The less you spend each month, the fewer income streams you need. “Passive” has different levels, but it really means that you do not directly exchange your time for money as you do with a regular job. A few examples of passive income streams include:
- Real estate Rentals
- Passive Businesses
Building passive income streams is also a good way to keep yourself busy once you do become financially independent. Here is a post that lists 12 ideas to build passive income.
Mini retirements are taking time off from work for an extended period of time (usually at least one year). You will need to accumulate a large amount of assets in order to support yourself during that time off, but sometimes that is all that we really need. Taking a mini-retirement allows you the time to explore your interests much sooner then it would otherwise take you to become completely financially independent. It is a way to enjoy the benefits of financial independence throughout various times in your life.
Geographic arbitrage is moving somewhere else and taking advantage of price differences in different locations. It can be done in your own state, your own country, or even internationally. For example, in the United States if you lived in a really expensive city in the United States like San Francisco that has a cost of living index of 269.3 and you moved to a city like Dallas with a cost of living index of only 92.9 then your dollar would stretch a lot further just based on the location.
Why Is Financial Independence Important?
Financial independence is important because it is the ultimate form of financial security. Relying on work income from one company is very risky since any job can be lost for any reason at any time. Financial independence puts your financial security into your own hands.
Can You Retire With $500,0000?
You can retire with $500,000 in some circumstances. Utilizing the 4% safe withdrawal rule would yield you approximately $20,000 per year to live on. If you can reduce your expenses to that level then you could retire. If you have other income streams like social security, pensions, real estate rents, etc. that fill the gap then you could retire on $500,000