DR Podcast 319: The Math Behind FIRE

Chances are, you’ve at least heard about FIRE at some point in your financial journey. But whether you’re brand new to the concept or are working on implementing it in your own life, there’s one thing that’s likely true across the board: figuring out the magical number that would make FIRE possible for you is quite tricky.

Today, let’s talk about about the premise behind FIRE, what it entails, and whether early retirement is closer within reach than you might think.

What is FIRE?

The acronym FIRE–which stands for Financial Independence, Retire Early–represents a movement that has caught… well, fire… over the last few years. Its followers are driven not only by the goal of achieving financial freedom, but also by their desire to retire earlier than is typical.

Podcast: Learn More About the FIRE Movement

Both sides of the FIRE coin are open to interpretation, though. Only you can decide what financial independence will look like for your family, depending on your future plans and even your current situation.

You are also the one in control of just how early you want (or are able) to retire. This number is different for everyone; an “early” retirement doesn’t have to mean age 40.

Related: What Does Financial Freedom Mean to You?

Yes, FIRE is Possible for You

The idea of (ever) being financially independent or retiring early can seem out of reach for many. Doing both then might feel impossible. But, you’d be surprised by just how within-reach FIRE really can be. There are just two things you need to calculate:

  1. How much money should you save for retirement?
  2. At what age will you reach that goal?

For many Americans, making ends meet can feel difficult enough on a daily basis. The idea of boosting retirement savings even more? It often sounds impossible.

Related: Best Online Savings Accounts with High Interest

This is especially true if you’re also saving for a rainy day or paying down debt.  Stashing away even more cash for a comfortable (and often hastened) retirement, on top of handling the day-to-day expenses, can sound like a pipe dream.

With a little strategy, though, and a dedicated savings plan, you too can find yourself in the land of financial independence. If done properly, you might even be surprised to find yourself getting there a little early.

Resource: 10 Useful (and free) Online Retirement Calculators for Saving Money

But just how much do you have to save in order for this to be possible?

How Much FIRE Requires You to Save

The very first thing you’ll need to do when considering FIRE is to calculate how much you’ll need to put into retirement savings. And whether you’re wanting to retire at a traditional age or very early–and regardless of where your savings accounts are now–the process for figuring out “your number” is the same.

So, just how do we go about determining our personal savings number? Then, given that number, how do we decide what we should be saving now?

The calculation process isn’t an exact science, but more of an educated guesstimate. However, the result will give you a pretty solid idea of your target savings, in order to reach financial independence and/or early retirement.

We have a financial freedom calculator here on Dough Roller, designed to help you do just this. By entering your own numbers for savings, income, and spending, you can easily see just how much you should aim to save for retirement… and how long it will take you to get there.

You can also play with the numbers to see how saving more–or less–will impact your plans. Want to retire by a specific age? You can run those numbers, too, and see how much you’d have to put away each month in order to get there.

Let’s talk a bit about how the calculator works and why, so you can see just how within-reach FIRE really is.

Your Current Income

When calculating your FIRE figure, you’ll first want to focus on annual income.

At retirement, some folks will be able to rely on benefits from a past career, like a pension. Many will also receive Social Security benefits from the government. (Fun fact: as many as one-fourth of Americans intends for SS to be their primary source of retirement income.)

The amount you’ll receive from Social Security will depend on your career now and at what age you decide to retire. For reference, though, the average monthly benefit in 2018 was just over $1,400.

While this is unlikely to be enough to survive on by itself, it does equate to around $17,000 that you won’t need to pull out of your retirement savings each year. Because of this, you’ll want to add any expected retirement benefits, like Social Security and pensions, to your annual income when calculating your FIRE target number.

Of course, it’s important to also keep in mind that if you plan to retire early, many of these benefits won’t be available right away. For example, the soonest you can start receiving SS retirement benefits is age 62; if you plan to retire earlier than that, you’ll need to account for this in your savings.

Bottom line: Take your current annual income and add your expected retirement benefits, such as Social Security or a pension.

Subtract your Savings

Now that you have your income figure in hand, it’s time to figure out what you actually spend each year. And the easiest way to do that is to simply subtract your savings.

There are many places you could be saving today. You might be contributing to short-term savings, such as an emergency fund or future down payment for a vehicle. You are probably also contributing to retirement savings in the form of a 401(k), IRA, and the like.

When it comes to calculating your FIRE number, though, not all savings are created equal. That’s why you’ll want to subtract your long-term savings efforts from your income, but not your short-term savings.

Short-term savings for things like a new car, education, or even a future vacation are funds that will be spent before retirement. So, if it’s not being set aside for retirement, it isn’t part of your “savings,” at least in terms of this exercise. Leave these numbers in your spending category as they are still a part of your monthly expenses.

Bottom line: Take your annual income and subtract your retirement savings. The number that’s left is your annual spending.

Now, Multiple That

So, now you know what you are spending each year. If you’re putting 5% in a retirement account, your spending is roughly 95%. If you’re saving 15%, your spending is 85%. Seems easy enough, right?

Well, the math can actually be a bit tricky to wrap your head around. After all, you may not feel like you’re actually spending that much each year.

Plus, your spending is likely to change in retirement. You’ll hopefully have your home and vehicle(s) paid off by then, probably won’t have student loan or credit card debt, etc.

Still, this basic number is a great place to start… even if it’s not an exact science.

Once you have your spending calculated, multiply this number by 25 to get your target retirement savings. So, if you are spending $85,000 a year, you should aim to save $2.125M. If your spending is only $50,000 annually, you should aim for $1.25M in retirement savings.

Bottom line: Take your spending and multiple by 25. This gives you your target retirement savings.

When Can You Retire?

Now that you know how much you need to save, it’s just simple math to figure out how long it will take you to get there.

The aforementioned financial freedom calculator can help you see this all laid out. It will take into account how much you’ve already saved, how much you spend annually, and what you’re saving each month. Based on these numbers, you can easily determine when you can successfully retire.

What if you’re not happy with the numbers, though? You can easily see how small changes will impact your plans, such as saving a bit more each month or even lowering your withdrawal rate once you do retire.

For some people, “early” retirement might mean clocking out a couple years earlier than planned. For others, it might mean saying goodbye to the workforce at age 40. No matter what financial independence or early retirement mean for you, though, it’s important to know how much you’ll need to save in order to get there.

Retiring early will require some dedication, yes, but it doesn’t take some crazy 50% savings rate to get there. No matter your income, learning how to spend less and save more can get you to your goals even faster.

Related: CIT Savings Builder Review – NEW 2.30% APY

Run the numbers in our calculator and see! You may be surprised to learn that by setting aside 10-20% of your income, you can join the FIRE ranks earlier than you ever thought possible.

Topics: PodcastRetirement Planning

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