I’m a Retirement Planner: Here’s How To Calculate Your FIRE Number
If you want to retire early, you might want to consider the FIRE — financial independence and early retirement — approach. This movement has been gaining steam in recent years, as the views around retirement have become more fluid.
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Yet, while there are numerous ways to achieve this — living below your means and saving aggressively, for instance — it can be tricky to put a finger on your exact FIRE number. In other words, it can be difficult to gauge how much savings you will need to retire early, achieve financial freedom and not worry about money.
The Rule of 25
One rule that experts recommend using to calculate your FIRE number is the so-called “rule of 25.”
This is a “magic number” that determines your readiness to retire by multiplying your anticipated annual expenses by 25, said Steve Sexton, CEO of Sexton Advisory Group.
“For example, if you make $100,000/year, your target savings goal according to the FIRE method would be $100,000 x 25, which is $2.5 million,” Sexton said. “The Rule of 25 assumes that you can safely withdraw 4% of your savings annually without depleting your retirement savings too quickly.”
Sexton added, however, that these are general guidelines and your ability to preserve your retirement savings is contingent on your ability to plan and budget during your golden years. It’s also important to note that this rule might not work as well depending on just how early you plan to retire.
“While these rules serve as a useful jumping off point to determine your FIRE number, a variety of lifestyle factors need to be taken into consideration when finalizing your target savings goal, including potential health diagnoses and treatment costs, housing, unexpected financial emergencies, and more,” he added.
And as Stephen Kates CFP, principal financial analyst at Annuity.org, also argued, the 4% rule of thumb originally came from a study meant for retirees in their 60s and only showed that it could sustain a portfolio over a 30-year retirement period.
“The study did not look at longer periods so if you are retiring early and expect to be retiring earlier than your 60s, you will need to fine-tune your approach to provide an adequate safety net,” Kates said.
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Be More Flexible
As Jay Zigmont, PhD, CFP, founder of Childfree Wealth, noted: “Keep in mind that the FIRE math is rough back-of-the-napkin math at best. It does not take into account taxes or your specific issues.”
In turn, while this baseline rule is a good start, some experts argue that there need to be additional considerations.
First, are your current expenses your target expenses?
“Many people who save aggressively don’t expect to continue living on the same amount throughout their remaining years,” Kates said. “Inflation, travel, restaurants, gifts, home maintenance can all contribute to higher expenses throughout a lengthy retirement period and need to be planned for.”
In addition, healthcare is a huge cost that will need to be self-funded until Medicare kicks in at 65, while uncertainty around the stability of Social Security is an added concern, he noted.
“Another complication of early retirement is not being able to access retirement money that would be subject to penalties if withdrawn prior to 59 1/2 years of age,” Kates said.
Consumer finance expert Kyle Enright, president of Achieve Lending, echoed the sentiment, saying that the amount needed to retire will be different for every person.
“So, every person needs to take steps to realistically figure out that number,” he said. “‘Realistic’ is key. Many people have been, and are, over-optimistic in their thoughts on what it will take to retire.”
In turn, according to Kates, there is no perfect number and as there is substantial room for error when planning for spending over three to five decades — there is no perfect strategy that applies to everyone.
“The closer to normal retirement age someone is, the less conservative their retirement plan will need to be since more certainty can be applied around healthcare costs, Social Security and spending habits,” he said.
Against that backdrop, Kates recommended another way to calculate your number: Multiply non-health insurance expenses by 28 — roughly equal to a 3.5% withdrawal rate — multiply expected health insurance costs by 40 and put aside 12-24 months of essential expenses into an emergency fund.
“For someone who expects to spend $50,000 per year ($45,000 + $5,000 healthcare expenses), with 60% being essential expenses, the goal would look like this: $1.26 million in assets allocated for non-healthcare spending; $200,000 in assets allocated for healthcare spending; and $30,000-$60,000 in an emergency fund. This would bring the total to $1.49 million to $1.52 million,” he added.
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This article originally appeared on GOBankingRates.com: I’m a Retirement Planner: Here’s How To Calculate Your FIRE Number
