From Zero to Retired A.S.A.P………

This post will give everyone the basic knowledge to get started on your path to Financial Independence, we will tackle the money, the math, the plan, and most importantly the REASON. To start with we need to define Financial Independence, Financial Independence is when you no longer need to trade time or energy for money. It is when you have saved enough financial capital to continue living the lifestyle you want without worrying about earning money. The goal is for the money you have saved and invested to be working and providing large enough returns (capital gains) that you can live off of the interest and never worry about running out of money. There is a lot of debate as to what the perfect amount to have saved to confidently walk away from your career but for simplicity and for safety we will go with 25 times your current monthly expenses. This would equate to being able to comfortably withdraw 4% of your account balance every year to live off of. This number has been studied extensively and proven to be the sweet spot. Trinity University did a thorough study of historical returns and back tested the 4% withdrawal rate, they found that it had an almost 100% success rate of insuring that the investor did not run out of money after retiring. The really interesting thing is that in most cases the investor actually ended up with more money than they started with even after they had withdrawn 4% to live off of for 30+ years. So where do we start?

The REASON- The reason for Financial Independence in my opinion is the most important part because without the why it’s hard to get motivated to even start and really hard to keep going when progress seems slow or setbacks occur. Everyone’s why will be different depending on their personal beliefs and what is important to them, for me it’s security for me and my families future. Simply saying my why is because I want to be rich is not enough, you need to really define what is important to you and connect your finances to it on an emotional level. I recommend spending time thinking about what a future of financial independence would look and feel like, how would being secure in your future and having the ability to choose to work because you want to not because you have to feel like, how would you behave or act if you didn’t depend on a job to pay your bills. What would you do with your free time, how would your freedom affect your family and friends? Once you have written down your WHY and what it means to you then we need to tackle the how.

The How – The how can be summed up very simply as getting your monthly expenses as low as possible so that you can save as much of your income as possible and so that you require very little income to live off of. So if you can imagine paying off your debts and saving 40% of your income, that means you only need 60% of your current income to actually live off. So lowering your monthly expenses speeds retirement up exponentially as it allows you to save more and at the same time require less to actually live off of.  The chart below is from the MMM website and does a great job of showing just how powerful a high savings rate can be. Below it shows that saving 5% of your income takes 66 years to be able to retire, it means you need 95% of your income to pay your bills. On the other hand a 50% savings rate only takes 17 years to reach retirement because you only need half of your monthly income to cover your living expenses. So let me say this one more time, the lower you can get your living expenses the more of your income you can save to build an income machine and the less you require to live off of.

              Savings Rate (Percent)        Working Years Until Retirement
5 66
10 51
15 43
20 37
25 32
30 28
35 25
40 22
45 19
50 17
55 14.5
60 12.5
65 10.5
70 8.5
75 7
80 5.5
85 4
90 under 3
95 under 2
100 Zero

I’m sure that many of you are saying this sounds great but who can afford to live off of only 50% of your income, unless of course you make a million dollars a year. Well the great part about this math is that it is all about percentages, so whether you earn $10.00 an hour or $100,000 a year the math is all the same. The less of your monthly income you require the more you can save and sooner you can afford to retire. In honestly if you could live with family or friends for free you could probably retire now. The first thing to do is to begin tracking your income and expenses and get a clear picture of what you have coming in and what you have going out. If you spend more than you make you have a deficit but if you earn more than you spend you have a surplus. Managing your monthly finances will allow you to better understand where you are, where you want to be, and how to get there. I have provided a spread sheet to help you calculate your monthly income and expenses and also track your net worth, net worth is the difference between what you own and what you owe. The spread sheet requires you to fill in the amounts of income, expenses, and assets. The cells highlighted in YELLOW or GREEN will pre-populate and should not need to be messed with. Start with the Net Worth sheet and enter all your assets and liabilities, then move on the income and expenses sheet where you enter your income and monthly expenses, if you enter your annual salary at the top it will automatically figure your monthly income. once you enter your monthly expenses then you can enter expenses you could probably easily do without. Next you will move on to the last sheet Retirement Plan, here most of the cells will once again pre-populate for you, the only cell you really need to mess with is the amount of years you plan to live in retirement, remember the earlier you retire the longer you will need to live off of your investments. I know this may seem like a lot of work but it’s not really that bad and will go a long way to help you get ahead. Once you have filled out all the information on the spreadsheet, you should have a good idea of exactly what you earn, spend, and can cut out to save more money. Interestingly if you can increase earnings and simultaneously cut spending your savings and net worth will start to grow exponentially. Once you start to see progress it becomes really fun, actually it starts to become slightly addictive. Albert Einstein said that Compound interest was one of the great wonders of the world, it allows your money to earn interest off of the interest and once you get a decent amount saved your money will start earning more than you do by working, that’s when it gets really fun.

Okay so we defined our why, we looked at the math behind how lowering expenses allows us to shorten the time till retirement, and we also know how much we are spending and saving. Now we need to see if the amount we are saving each month will get us to our retirement goals. There are many retirement calculators online that will allow you to run the figures but my favorite is the Simple savings calculator from BankRate. So now we now if our savings plan will work or not but where do we save the money………. Funny you should ask.

This is targeted at the standard W2 employee. Here is my recommendation for where and how to save your money. Start with your companies 401k and put in enough to get the company match, this is like free money and everyone loves free money. Next let’s move over to a traditional IRA, my personal favorite brokerage is Vanguard and it only takes about 10 minutes to open an account. Currently individuals are allowed to save up to $5,500 per year in an IRA. This money is post tax but you get a credit on it when filing taxes, so you get an immediate tax savings in the year invested. Once you max out the IRA account we can move back to the 401k. There is one exception and that is if the 401k administrator charges higher than normal fees, (greater than 1%) if this is the case please speak to your Human Resources manager and ask them to research other options, it is your companies duty to provide the best plan they can. Assuming this isn’t the case start putting in as much of your income as you can into the 401k, 2018 contribution limits are $18,500. Maxing out your 401k should be your next goal, all the money put in this account is put in pre-tax and instantly lowers your taxable income. So not only does it lower the amount of taxes you have to pay it allows that money to grow. This is especially advantageous for someone who is in a high tax bracket because once retired chances are you will be in a lower tax bracket. So if you make it to the point that you are maxing out an IRA and a 401k then you are saving $24,000 annually and also not paying taxes on the $24,000. If you have additional income to invest above this amount I recommend utilizing a taxable brokerage account. These accounts are for post tax income and have no limit to contributions, these accounts don’t have any real tax savings but they allow you to invest in anything you can imagine and as long as you keep the investments for more than a year you benefit from the long term capital gains tax rate, to learn more about these rates see my taxes page on this website.

I of course believe in paying off all debts and holding at least 2 months of expenses in cash in a savings account. All of these can be worked towards at the same time. I recommend paying off an debts with high interest rates and leaving debts associated with appreciating or income producing assets until last. I would in fact suggest that if the debt is on an asset that produces enough income to cover the debt payment that it should be moved to the bottom of the list. Also if you have a stable job and feel secure in it I think the emergency fund can be less of a priority, however you must be able to cover any unexpected expenses that might arise without having to dip into your savings or go into debt to cover them. This is not only a plan to get you to financial independence but to create generational wealth. Once you have reached what we call critical mass or saved an amount that spins off enough money for you to withdraw 4% to live off of, not only will you most likely never have to work again but you will likely leave the next generation a massive inheritance. If you couple this with teaching them how to save and live below their means, plus getting them started saving young they will be able to grow that nest egg and change the course of the family tree. Imagine a multi-million dollar account that isn’t touched for another 15 or more years after you pass away………

In a later article for more advanced investors we will discuss how to make after tax contributions to your 401k which can then be rolled over to a ROTH IRA which in my opinion is one of the best inheritance/wealth transferring accounts available. I hope this article has shed some light on the path to Financial Independence and inspired at least one person to begin that journey. Becoming Financially Independent is one thing each of us can do to not only improve our lives but the lives of those around us. We change the world one person, one house, one neighborhood, one town, one city, one state, and one country at time. Thank you for taking the time to read this article and if you enjoyed it please share it with someone you think it might help.

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