Self-made millionaire: Want to know if you can retire early? Figure out this number

"Based on how much you have saved and invested, ask yourself, how many months of freedom have you acquired?"


If you've ever read any personal finance journalism, you know that you'd be wise to start saving and investing now to build yourself a nest egg. But how much money you actually need to fund a comfortable retirement can often lead to a hot debate.

People in the "Financial Independence, Retire Early" community, who focus on saving enough money to leave their 9-to-5s and live off their investments well before the traditional retirement age of 67, have done a lot of work toward providing a definitive answer.

They've come up with what they call a "FIRE number," which differs for everyone: It's the product of a calculation, given certain assumptions, that determines how much money you need to accumulate in order to live off of your investments in perpetuity.

Going through the exercise of calculating that number can be useful to understanding your goals, even if they don't involve retiring early, says Grant Sabatier, author of "Financial Freedom" and co-founder of "With every dollar you save, you give yourself more freedom and options in life," he says. "Based on how much you have saved and invested, ask yourself, 'How many months of freedom have you acquired?'"

How to calculate your FIRE number

To find your FIRE number, multiply your expected annual expenses in retirement by 25. So if you expect to spend $50,000 a year in retirement, you could call it quits when your investment and savings accounts total $1.25 million.

It's a simple calculation that relies on several assumptions. One is the so-called "4% rule," a retirement convention that gained prominence following the publication of influential research from Trinity College in 1998. This rule of thumb states that an investor can safely withdraw 4%, adjusted for inflation, from a balanced portfolio of stocks and bonds each year in retirement, and be relatively certain that the money in the portfolio won't run out.

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The reason this works is because you're assuming that compounding interest keeps the remainder of the portfolio growing, even as you're steadily taking small chunks out. This isn't a guarantee, because markets can go down as well as up. Historically, though, the broad stock market has trended upward, with the S&P 500 averaging an annualized return of nearly 10% since 1930.

While the original rule applies over a traditional retirement timeline of 30 years, it can work if you retire earlier as well, Sabatier points out. "The nature of compounding is that it accelerates. It's an exponential curve," he says. "The Trinity study was based on a 30-year period, but that can be extended out. I have a calculation in the back of my book showing that you need less money to retire at 30 than at 65."

Extra factors to consider when calculating your number

As alluring as it may be to consider your finances in terms of one number, there are factors other than what you hope to spend in retirement that can change the calculus behind your savings decisions.

  1. The 4% rule itself may need a little tweaking. Although the model is based on historical market data, some experts believe that investors shouldn't expect returns to be as robust going forward. Analysts at Morningstar, for instance, recently calculated that a 3.3% withdrawal rate in retirement is likely a safer bet for folks looking to live off of their nest egg without running out of money. If you believe Morningstar's analysis, you'd multiply your expected expenses by 30.3 rather than 25.
  2. Your expected expenses may be higher than you think. The original 4% rule factors in inflation during your retirement, but you'll need to consider how prices may go up between now and when you stop working, says Cody Garrett, a certified financial planner and owner of Measure Twice Financial — an advisory that specializes in early retirees — in Pearland, Texas. "Inflation continues on the path to retirement, it doesn't just start when it happens," he says. "If you think you need $60,000 to live on and there's 2.5% inflation, 10 years from now that's about $77,000 that you actually need."
  3. Health care is expensive. If you're looking to leave the office for good, you'll have to factor in the cost of health care, which could be higher than you previously assumed, says Garrett. "A lot of people look at what is being deducted by payroll and assume that's what their health insurance costs," he says. "They think that their coverage costs $6,000 but don't realize that their employer is subsidizing sometimes $15,000 or $20,000 in health-care costs." To figure out the total cost of your current coverage, look at your W-2, which shows the combined employer and employee health coverage contributions.
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Factor flexibility into your retirement plans

The website for Sabatier's book has a FIRE number calculator, which allows you to adjust all of the proverbial knobs, such as the rate of return you expect your investments to earn, your desired withdrawal rate, your current income, and any one-time future expenses you expect.

If your goal is to hit your number and sail into retirement, you'll likely have to adjust regularly between now and then, says Garrett. "Look back five or 10 years and think about what your life looked like then. Your life is going to have substantial crossroads and lots of uncertainty, which make long-term projections difficult," he says. "You have to think not only about what you're retiring from, but what you're retiring to — what you're going to do with your money and time. That can change, too."

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Whether you're retiring tomorrow or in 40 years, experts recommend holding money you hope to spend over the next couple of years in safe, liquid assets, such as a high-interest savings accounts or short-term bonds. Doing so could allow you to take a so-called "mini-retirement," in which you test the waters of financial independence for, say, a year.

The key to utilizing your FIRE number is realizing that the money you save has the potential to buy you time in which you don't have to work, says Sabatier. "If you're aiming to spend $50,000 a year and you have $200,000 saved, you have four years of freedom in your bank account," he says. "Then if you take a year off, you might think you have three years left. But the great thing about the stock market is you could come back full time and your money will have grown to the same amount as when you left."

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