Why do people pursue money? Is it to buy fancy clothes or fast cars? For some yes, however many strive to accumulate wealth in order to save enough money to retire. Sadly, the majority of people only know one way of making money and it’s by getting a job, working hard, and collecting a pension in their old age. However, the trend is changing. People are learning how to become financially independent earlier in life so that they can call it quit years sooner and here are five steps I believe anyone can take to do the same!
But before we get into the 5 steps, let me briefly share with you what FIRE is and what it stands for. FIRE is a financial movement inclusive of individuals who aim to become monetarily self-sufficient and retire sooner than their peers. As for the acronym, FIRE stands for Financial Independence/Retire Early.
Financial Independence means having enough money that you don’t have to work for money again. Believe it or not, it’s possible to make enough money to sustain you until you pass and there is a growing community of people who are achieving this financial feat. But how exactly do they do this?
When people are preparing for retirement, they can use the 4% rule to calculate how much they need to save if they want to live comfortably after they retire from their 9 to 5 job. Following the 4% rule, you need to have about 25 times your annual expenses in a retirement fund. If after your estimations you find out that you need $20,000 annually to live off of, your goal would be to save up $500,000 for retirement. However, if you are planning to retire early, you need to have more than this amount saved for retirement.
The other concept of the acronym is “Retire Early”. Not everyone wants to work through their golden years. As the typical retirement age is around 65 years old, one would be correct in saying that retiring any earlier would be considering retiring early. The concept of “Retire Early” focuses on reducing this age and retiring from your career sooner than your peers.
This does not necessarily mean you have to stop working. It may just be that you are switching careers or retiring from your active job to start a business. Whatever the case may be, you need a long-term plan to be able to achieve this and as such here are 5 steps you can use to make this happen!
Step #1: Determine your passive income target and desired spending figure
You cannot attain financial independence or retire early without proper planning. The first step to making this dream a reality is by thinking about the possibility of retiring early. Thinking about the possibility makes you plan for how it is going to become possible. The first thing you need to know is how much you need to be able to say that you are financially independent. You need to know this amount so that you can create a target and start working towards it.
To build this target, you will have to gain an understanding of how much you want to spend per year in retirement. For those who desire a higher standard of living in retirement, their annual expenses will be greater whereas someone who wants to live a more frugal lifestyle in retirement will obviously need to draw less annual income from their retirement fund. To determine this desired spending figure, you can work from your current annual living expenses and make adjustments as required.
For example, if you know that you will have your house paid off by the time you retire and will only have one car, you can likely reduce your monthly expenses by $2,000 thus lowering your overall annual expenses. Once you consider all of your modified lifestyle factors for your retirement years you will then come to a baseline desired spending figure. As a point of caution, the cost of living will increase over time therefore I always recommend indexing up this annual expense figure by 20% so that you don’t under save and limit your enjoyment of your retirement years.
After this activity is complete, you will have to set a passive income target which will supplement the income you draw from your retirement nest egg but I will talk more about passive income in step #4.
Step #2: Set a high savings target
If you are serious about financial independence, you need to have a high savings target. Saving money is often easier said than done that is why you need a plan to make it possible. The first step is setting a clear goal with actionable plans that you can follow to achieve it. To set a goal, you need to define what you need it for. In this case, you need to have a high savings target to reach financial independence and retire early. Having a clear purpose for saving money will motivate you the more to be able to achieve your goal.
Also, while setting out plans for saving money towards retirement, you need to save money in case of an emergency. An emergency fund is usually about 3 to 6 months of your monthly expenses. As the name implies, emergency funds are useful for emergencies like loss of a job or critical medical conditions.
It is impossible to save more than you earn so for you to realize your saving goals, you need to review your finances. Know how much you make every month and how much of it you spend. The difference between these two is what will determine how much you will have left for savings. Sometimes, you may need to reduce your spending to be able to increase the amount that you will have to save. You may also need to increase your earnings to be able to meet up with the savings target.
The next step to achieving a high savings target is to have a deadline. A goal without a deadline will not motivate you in any way. Since you are planning to retire early, set a date that corresponds to what you want to use the money for and then break it down. For instance, if you need to save $100,000 in 10 years, you have to break it down to know how much you need to save every year. That is, you will divide the figure by 10 to have a savings target of $10,000 every year. If you can do this, then you are on your way to financial independence.
Step #3: Maximize your active income
The fastest way to reach financial independence is by increasing your income. No matter how much you make right now, increasing the figure will contribute significantly to your dream of attaining financial independence and retiring early.
You need to learn how to maximize your active income if you want to reach financial independence and retire early. The first thing that you need to do is to change your mindset about how much money you can make. Most people limit themselves by having an income ceiling that becomes difficult to break. One of the ways to change your mindset is to change the people that you follow and associate with. Your income range will be between the 5 closest friends that you have in your presence. If you want to make more money, you need to start associating with people who make more money than you do in your organization. Another step to increase your active income is to improve your skills. The more valuable you are in the free market, the more money you will be able to make. For instance, if you are in the sales department, you can learn about copywriting to know how to write compelling sales letters that will increase your sales. When you bring in more sales, the organization will do whatever it takes to make sure that they retain you. And if you have a business of your own, improving your skills will help you make more money and expand your business.
You can also change your job if possible to earn more money. You can rely on the experience you have and then look for a better paying job. Your employer is not loyal to you. Your employer can lay you off at any time so it is better to always look for a better paying job to maximize your income. You can also start a second job if your current job permits you to. You need to have multiple streams of income to maximize how much you make.
Finally, don’t be scared to ask for a raise in your salary. Ask around and see what other people are earning. If you are sure of the value that you contribute to the organization, walk up to the person in charge, and ask for a raise in salary.
Step #4: Build passive income streams
There are two types of income -active income and passive income. The main difference between the two is the time involved. Passive income means a source of income that you can generate with little or no involvement from you when set up properly. An example of passive income is the interest that you receive on your investment. It does not involve any active participation from you and that is why it is called passive income. Active income includes your daily job that requires your full attention and participation.
If you want to achieve financial independence, you must learn to build passive income streams. There are several options available to build passive income. Before I give you the options, I want you to know that passive income does not mean spending every day on the beach and bathing in the sun. Passive income involves work and you must be ready to work. One of the ways to build passive income is by selling information products. If there is anything you know that you think others can benefit from, you can package it as an information product and sell it to others. An information product can be anything from “how to prepare a particular meal” to “how to dress for an interview”, “how to approach strangers”, “how to use computer software”. Other sources of passive income include earnings from real estate, affiliate marketing, dividends from stocks, and many more.
Step #5: Know your FIRE ratio
Your FIRE ratio is how you measure how much you need to save to meet your retirement goal. Being able to calculate how much money you need to save to attain financial independence is very important because it makes it easy for you to measure your progress. Your FIRE ratio is the percentage of your monthly expenses that you can cover with your passive income. For example, if your monthly expenses are $2,000 and the total amount you make from your passive income is $200, your fire ratio is 10%.
The calculation is done by dividing the total amount of passive income by your monthly expenses. From the example I just gave, it means you will divide $200 by $2,000 and calculate the percentage. That means that your passive income can cover up to 10% of your monthly expenses. Your goal is to save enough money such that your passive income will cover your total monthly expenses. In the case where your monthly expenses are $2,000, you need to make at least the same amount or more in your passive income monthly.
Now, it’s your job to build up your own FIRE ratio and soon you will be kissing your 9 to 5 goodbye!