For many, the main purpose behind investing is to eventually achieve financial freedom. In the world of personal finance, financial freedom is almost the holy grail for everyone. A reality where you have the ability to do anything you want while maintaining your desired standard of living without the need to worry about your next paycheck seems to be the utopia for most. Hence, it's fair to say that financial freedom is the financial goal for many. It is also probably the reason why you are reading this post or even this blog.
In this post, I am going to put (almost) all that I could think of relating to achieving financial freedom. Obviously, I have not achieved this goal yet. However, putting what I know into a post like this helps me to do a retrospective in the future, and I hope it does benefit you too.
So, let's get started.
There are many stages to Financial Freedom in my own perspective.
- Achieving your first $100K
- Coast FIRE
- Barista FIRE
- FIRE
*FIRE represents Financial Independence, Retire Early
I am going to describe each of these stages in detail.
Achieving your first $100K
This is the single most important financial milestone that anyone who is thinking of achieving financial freedom needs to hit first. Without hitting your first $100K in your portfolio, you have not really got started on your journey of financial freedom. It is also likely going to be the most difficult milestone to hit. Imagine you are a 25 year old fresh graduate with a student loan debt and a monthly salary of $4K. Hitting $100K might seem impossible!
But I'm telling you that you need to do whatever you can to hit this sum. And you need to hit this sum early. You will thank yourself for doing this. When you hit $100K, this amount is capable of snowballing over the years via compound investing to reach your eventual FIRE amount (more on that later). Just remember that every $1 you invested now is going to be worth $13 dollars in 30 years given a compound growth rate of 9%. This is how powerful the money you have on hand is now. You are essentially holding the key to your financial freedom in your hands now if you prioritise investing.
If you still do not have this sum of money yet, you need to look into increasing your savings rate. Caution: saving rate, not investing rate of return. If you do not have $100K yet, your investing rate matters very little as it is very likely that your savings can contribute a lot more to your investing portfolio compared to your investment returns.
Look at what's your typical saving rate by calculating how much money you are saving based on your total income. It's possible to have a 50% savings rate if you do not overindulge yourself with branded goods, luxurious holidays, or purchase of a car. If your annual income is $50K (after CPF), a saving rate of 50% could easily allow you to save $100K in your portfolio before you reach 30 years old. Most fresh graduates now easily earn this amount in their first job so I'm sure achieving the first $100K is not difficult for them. It is just a matter of discipline.
I once ran a poll to ask my readers when they achieved their first $100K in their portfolio and below are the results.
Majority of my readers achieved $100K in their portfolio before they were 30 years old. So like I say, this is very doable.
Achieving your first $100K in your portfolio is so important that I strongly recommend you to skip reading the rest of this article and focus on working out your saving rate right now if you have not achieved this sum yet.
I wrote more on this topic here.
TLDR: Achieving your first $100K is key to achieving financial freedom. Savings rate is key to achieving this amount.
Coast FIRE
After you achieve your first $100K, you can then seriously think about how to achieve financial freedom. This is the stage when you are in position to really think about the amount of money you need for retirement, and work out your path to financial freedom.
In the route to financial freedom, Coast FIRE is your second step. Achieving Coast FIRE means that you have sufficient amount in your portfolio to slowly grow into your retirement amount at a growth rate (which you are comfortable with) in a predefined period of time without the need for you to make any active contributions to your portfolio anymore. Essentially, you are free to spend every single dollar you earned on anything you want and you can still expect to have enough for your retirement when the time comes. What you earned is just required for your daily spending. You no longer have to worry about the savings rate at this point of time.
To determine how to achieve Coast FIRE, you need to first know what is your desired retirement amount. For you to determine your retirement amount, you need to first understand how much you will be spending in your retirement on an annual basis. Factor in your desired lifestyle standards, insurance needs etc and you should be able to get to a number fairly quickly. This sum differs for individuals. For simplicity sake, let's assume it's $50K to allow us to continue with the rest of the exercise.
The next thing you need to determine is a safe withdrawal rate which you are comfortable with. With a 4% withdrawal rate, your retirement sum will be $1.25M (50K multiply by 100 divided by 4 (withdrawal rate)). The whole idea of a safe withdrawal rate is establishing how much of your portfolio you will be withdrawing to fund your retirement needs on an annual basis. As your portfolio is also constantly growing from the investment returns, there will be a sweet withdrawal rate where your withdrawal sum will be equivalent to your investment growth. At this sweet spot, you will not need to worry about your portfolio running out of money.
Based on studies, several experts often advocate a withdrawal rate of 4%. This is a general rule of thumb and it does differ for individuals depending on the time horizon. A person who expects to spend 30 years in retirement will have a very different notion of a safe withdrawal rate compared to a person who is expecting to spend 10 years in retirement. Of course, none of us can predict how long we are going to live, and this is the reason why it pays to err on the cautious side and assume that you will live a lot longer.
If you are looking for inspiration on what is a good withdrawal rate, you may consider the above chart.
Assuming an annual spending of $50K in retirement and a 4% withdrawal rate, we have established a FIRE amount of $1.25M. This might seem to be a big sum, but you can use the power of compounding to eventually reach this amount (if you invest early).
Now with a FIRE amount of $1.25M, let's look at how we can establish the correct amount for Coast FIRE.
To be honest, the correct amount for Coast FIRE depends on many factors. The longer the period between your age now and your desired retirement age, the lower the amount for Coast FIRE.
Let's do a simple exercise below.
If you are 30 years old now, aim to retire at 55 years old, has $100K in your portfolio and can contribute $3000 on a monthly basis to your portfolio, you are expected to hit your Coast FIRE sum of $780,746 when you are 43 years old given that your portfolio compound at 7% annually with an annual inflation rate of 3%. If you look at the graph above, your Coast FIRE number differs at different ages. At the current age of 30 years old, your Coast FIRE will be $468,896 (which is different from the Coast FIRE sum at 43 years old). Most people are daunted by the number at the beginning, but they failed to understand that investing early and let compounding do its work allow you to eventually catch up with your Coast FIRE number. Once you have reached your Coast FIRE number, you have achieved the second step towards Financial Freedom. Achieving this step usually takes many years, and most might give up before they even achieve this. From the exercise above, you can see that you still need to make an active monthly contribution to allow your portfolio to grow to a decent size. Many do not have the discipline to do so and fail along the way.
You may try out the link above (below the screenshot) to key in your own parameters and determine the Coast FIRE amount based on your scenario.
Achieving Coast FIRE might allow either the husband or wife to be staying home and taking care of kids without compromising on retirement plans if the income of the other person is already sufficient to manage the expenses of the household. Personally, I think this is important as you never know if you or your partner needs to be more involved at home one day. Even if this is not part of the plans, you do still have to prepare for a scenario of either you or your spouse being potentially retrenched one day. Hence, I think achieving Coast FIRE is important for financial stability and assurance.
I wrote more on this topic here.
TLDR: The gap between your first $100K and Coast FIRE is huge. You need to continue your grind by actively contributing to your portfolio. Most failed at this step.
Barista FIRE
Contrary to the earlier steps, I don’t necessarily see Barista FIRE as the next step after Coast FIRE. In fact, it’s perfectly fine to ignore this too. But I think this form of FIRE might be more and more relevant to the youngsters. Hence, I decided to share some inputs on this too.
Barista FIRE is a form of FIRE where part of your expenses can be covered by the safe withdrawal sum of your retirement portfolio. The other part of your expenses can be covered by a lower paying job like being a Barista. In Coast FIRE, you cannot rely on withdrawing from your portfolio to cover your expenses (not until you reach full FIRE). This is where the main difference lies.
Now, there are a few ways on how one could achieve or interpret Barista FIRE.
For some, it could mean reducing their full FIRE sum to a lower amount and supplementing the reduced withdrawal sum with a side income. Example, let’s say your initial FIRE sum is $1.25M (based on the above examples). You may now decide to reduce this FIRE sum to $800K. Based on the same withdrawal rate of 4%, you will now only be able to withdraw $32K annually. As your annual expenses are $50K, you will now need to make up the difference of $18K by having a job or alternative income source. This means that you can technically semi-retire earlier as you no longer need such a large sum as before. However, this could mean that you need to continue working annually, albeit in a job which might be less stressful and more interesting to you.
For others, it will mean delaying their retirement age and start withdrawing a certain amount from the portfolio early so that they can switch to a lower paying job. By doing so, the portfolio will not be able to grow as much as expected, and hence a longer period of time is needed to grow the portfolio to the eventual sum you need. This is less practised and I personally think that it probably makes more sense to achieve Coast FIRE asap instead of doing this.
Barista FIRE is probably going to be popular among the younger generation now and in the future as more and more of them might realise that they do not want to be in the corporate world for their entire adult lives. They might want to explore doing different things, working on different passions, or even take a gap year every now and then. Instead of slogging your whole life for the eventual golden retirement, the younger generation might decide that it’s more worthwhile to “semi-retire” early and enjoy what they are doing.
TLDR: Barista FIRE isn’t necessarily the next step after Coast FIRE. Depending on what your idea of retirement is, you might or might not need to achieve this at all.
FIRE
This is the final step or rather the eventual goal of your personal finance journey. You are now free to do whatever you want within your financial means without needing to work another day of your life. There are different categories for this- Lean FIRE, (usual) FIRE and Fat FIRE. Lean FIRE refers to achieving FIRE with a sum which provides below-average withdrawal amount. Example, if the average annual withdrawal amount for FIRE is $50K, then the withdrawal amount for Lean FIRE might be $30K or so. By the same principle, Fat FIRE refers to achieving FIRE with a sum which provides above-average withdrawal amount. Relating to the previous example, the withdrawal amount might be $80K or more. I think it make little sense to split hairs here as the notion of average is different among individuals. As long as you achieve the retirement sum you want, you have FIREed (as long as you do not inflate your living standards in your retirement years).
It isn’t easy to reach this eventual step as the gap (in terms of years) between FIRE and Coast FIRE might be even bigger than the gap between Coast FIRE and achieving your first $100K. Majority of the folks might not even achieve FIRE at all as they work every month of their lives till their dying breath.
It’s also important to note that one should not overly glorify FIRE. It’s meaningless to achieve FIRE if you have no idea what to do next. What good could this do if you just decide to spend your every day lying in bed or walking around aimlessly after you achieved FIRE. Hence, it’s important for one to decide what is the purpose of achieving FIRE. If you are already in a trade you love and it’s one that can allow you to work on even when your health deteriorates in the later years of your life, why fascinate over the idea of FIRE?
Could you also have a better quality of life by achieving Barista FIRE instead? Yes, you might work more years but you might end up spending the healthy years of your life doing what you love doing. If your idea of utopia is to surf on every beach of the world, you obviously could not wait till you achieve FIRE in your 50s or 60s and start doing so. It might make sense to do it in your 30s or early 40s instead and pivot to Barista FIRE instead. Is another ten years in the office to achieve FIRE more important than having a healthy body or even time to do all the dangerous or exciting sports or passion that you always want to? It all depends on one‘s priorities in life.
TLDR: FIRE is the last step of personal financial freedom. But make sure it isn’t the final milestone in your life.
To conclude
The whole purpose of trying to achieve personal financial freedom is to take back the power that money has over you. The closer you are to achieving FIRE, the less power money has over you. On the contrary, a person who does not plan for financial freedom will always be controlled by money. If you do not have the first $100K, you can hardly kick start your investing journey and achieve financial freedom. If you do not achieve Coast FIRE, you will always be forced to work for the you now (keeping up to your current living standards) and the you in the future (retirement). If you did not achieve FIRE, you will always be forced to work to keep up to your current living standards. As you progress on the ladder to personal financial freedom, you will realise that money has less and less of an effect on you. While it might sound contradictory, it is really true that you need to be first obsessed with money before you can be free from its shackles.
If you have read till this point of the article without saving $100K in your portfolio yet, please take this as yet another reminder to work on your savings rate and raise your first $100K.
For simplicity sake, I have created this simple diagram to illustrate the key points raised in this post.
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