**Update 7/17: The Milestones of FI is now a featured episode of the ChooseFI podcast! We elaborate on the content of this article, and discuss a few additional milestones as well. Check it out here.**
When my wife and I first discovered the financial independence community, we were beyond excited. We binged through the Mr. Money Mustache blog together, implementing all the changes he recommended as quickly as possible. We read every FI book we could get our hands on. We were, to put it simply, obsessed. After a few short months, our course correction was complete, and for the first time in our lives, we were speeding in the right direction to achieve true financial freedom.
And then… there was a bit of a lull. The cruise control was set, and so the excitement faded. “What do we do now?” I remember thinking to myself. I continued reading and absorbing as much information on financial independence as I could, but the big stuff was already taken care of. By the end of the year, I could feel my inner ten-year-old impatiently asking “Are we there yet!? Are we there yet!?”
It took another year or two before I truly understood that financial independence is actually a journey, not a destination. This then begs the question, “Where exactly am I on this journey?” It can take a decade or two to reach FI, so it’s important to occasionally zoom out and know where you are, so you can keep motivated and stay on course. Seeing the big picture also allows you to confidently pause your journey when ‘life happens’ without feeling like you’re moving backwards or giving up. So, I began searching the FI community to see if others had written more about this idea.
Jonathan and Brad, who I met at Camp Mustache earlier this year, have an excellent podcast episode about the ‘Pilars of FI’, which gives a blueprint for how to systematically progress on your FI journey. JD Roth and Joshua Sheets, who I also met at Camp Mustache, wrote great articles on the various ‘Stages of FI’ over at Money Boss and Radical Personal Finance. This concept is powerful, because it reinforces that financial independence is more than a simple destination, which is usually a surprise to those new to the FI community. Matt over at the Distilled Dollar discusses the ‘Phases of FI’, which frames financial independence as an ever-changing lifestyle.
So we have the ‘stages’, ‘phases’, and ‘pillars’ of financial independence, which tell us both where we're headed and how to get there. But how do we know where we are right now? What are the most common milestones we all cross on this journey, and when do we reach them? To answer these questions, you’ll need to first figure out your FI number.
What’s Your Number?
Mr. Money Mustache has an excellent post explaining how to easily calculate your annual spending. If you’re serious about making it to FI, you really need to know your specific expenses. For example, my wife and I are aiming towards annual spending of about $25,000.00 (we’re not quite there yet, but each year we make budget improvements that get us a bit closer to that number). If our expenses seems small, keep in mind it assumes a paid off house, and absolutely zero dollars per year spent on interest.
To calculate your number, simply multiply your annual expenses by 25. For us, that’s $25,000.00 * 25 = $625,000.00. This number represents the total portfolio value needed to passively cover all annual expenses, forever, assuming the 4% rule inferred from the Trinity study. Note that this number is NOT the same as net worth: it doesn’t include the value of a primary residence, or other non-income generating assets.
I like to think of it like this: I need to save $625,000.00 to purchase a magic money making machine that will print me $25,000.00 checks, once per year, every year, forever. The laws of thermodynamics may forbid perpetual motion machines, but luckily there’s no law of finance that prevents perpetual money machines!
There’s only one catch: This magic money printing machine, which costs $625,000.00 to build, cannot be purchased on credit. It’s cash-only, I’m afraid! This means that your journey to FI might take a little while. If you have a 50% savings rate, for example, it will take you ten to fifteen years to reach your number. To help keep you motivated on your journey, let’s discuss the milestones of FI you’ll pass along the way.
The first significant milestone on your journey to FI is saving up your FU Money. As we discussed in our previous post, FU Money is the cash you need on hand to feel confident enough to walk away from your employer for a year or two, should the need arise. The specific dollar amount you need will depend on your expenses and risk tolerance. For the wife and I, it was around 10% of our FI number, or roughly $60,000.00. FU money is different than your typical emergency fund, which you might already have. An emergency fund is designed to cover your most essential bills for three to six months in case of emergency. It's usually liquid, either in a checking, savings, or money market account.
FU money, in contrast, is a much more luxurious concept. You'll want to save enough to cover one or two years of regular (not just essential) expenses. This money doesn’t have to be as liquid as an emergency fund- it can be a percentage of your investment portfolio of stocks, bonds, or real estate, for example. With this milestone completed, you can walk away from your employer whenever necessary, because you'll have at least a year or two saved up to find another job, at your leisure. The confidence this brings is what makes FU money so powerful.
We actually had FU money saved up at the very start of our FI journey in 2014. Even with our previously outrageous six figure annual expenses, the wife and I thankfully still contributed to our 401Ks, giving us this FI jump-start.
Take a look at the chart I created above (you can click it for a full size version). Here, I've plotted portfolio value (in multiples of annual expenses) on the vertical axis, and time (relatively speaking, of course) on the horizontal. This chart is idealized, and assumes continuously smooth market growth, which of course isn't realistic. Your journey will be much bumpier… but will average out the same in the end. The idea here is to see a rough map of the journey to FI, and where the milestones lie along the way.
When you save up half your FI number, a celebration is in order: You're now ‘half FI’! For the wife and I, this milestone was $312,500.00, which we passed in April of 2016. Because savings growth isn't linear, the time it takes you to save up this first 50% is noticeably longer than the time it takes you to save the next 50%. You've actually completed significantly more than half of your journey!
Half FI is also a meaningful milestone for working couples like my wife and I: assuming an even split in your expenses, it’s the point in which your better (and luckier!) half is completely FI. This should give you significant peace of mind, and is the perfect motivation to try new things: perhaps take a new job, go back to school, take a sabbatical, or even reduce your workweek! Buckle your seat belt, though, because the next milestone will be here before you know it.
Lean FI is what my wife and I call the point where you can passively cover all your essential expenses, perpetually. Think food, shelter, and bills. This leaves off all the discretionary frills such as travel, eating out at restaurants, Netflix, etc. It wouldn’t be a super fun lifestyle, but you technically could quit work right now and survive forever. I like to think of Lean FI as an emergency fund that can cover infinitely many months of essential expenses.
The wife and I analyzed our expenses and found that over 30% were discretionary, meaning our Lean FI number is about 70% of our full FI number, or $437,500.00. We just crossed this milestone a few months ago, in February 2017!
Lean FI is a huge milestone*: all your essentials are covered, and you're literally working for the gravy. Don’t like your job? Quit! You have all the time in the world to find a new one that suits you, assuming you live a lean lifestyle during the downtime. Whether you go back to work or not, you and your family can rest easy knowing you'll have food on the table and a roof over your heads for the rest of your lives! This is a great time to start ramping up a side hustle and ramping down full time employment, so you can gradually transition into your awesome FI lifestyle.
You might notice something exciting happen if you track your money close enough around this milestone. For the first time, your dollars could be working harder than you! This crossover point is surreal: I was shocked the first month our portfolio gains were larger than the earned income from our wages. I kept double and triple checking the accounts because I couldn't believe it! This doesn’t happen every month, of course, because the market doesn't always go up. But when it does, it’s quite exciting.
The next milestone along the way is what I like to call flexible FI, or ‘Flex FI’. This milestone comes when you’ve saved 20 times your annual expenses. The idea is that at this milestone, you could potentially pull the early retirement trigger if you're flexible with your annual spending! For those of you with side hustles or a large percentage of discretionary spending in your annual budgets, this is the perfect time to be bold and quit the day to day grind. Starting an annual draw here is equivalent to following a 5% safe withdrawal rate, which, according to the Trinity study, has an 82% chance of success, even if you are completely inflexible with your withdrawals.
Indeed, the 4% rule is overly conservative most of the time. In fact, if you study the tables, you’ll see that over 50% of sample portfolios end up with over twice the desired principal in the end. Which means that half the time, you have more money than you need, and could have safely pulled more than 4%. According to J.L. Collins:
“The authors of the study suggest you can withdraw up to 7% as long as you remain alert and flexible. That is, if the market takes a huge dive, cut back on your withdrawals and spending until it recovers.”
The Flex FI milestone, therefore, highlights an important concept: you can retire early BEFORE reaching the traditional FI milestone. As Mr. Money Mustache has alluded to a few times on his blog, the RE component of FIRE is dependent more on your personal risk tolerance and financial flexibility than it is on any specific number in your accounts. This should bring you an added sense of confidence and control when planning your early retirement. As long as you watch your portfolio carefully over the years, there’s not much to fear. Your worst case scenario, after all, is everyone else’s every day scenario: you go back to work.
The wife and I may exercise this option if a 20% ‘market adjustment’ strikes right as we're getting ready to pull the early retirement trigger, which is looking more and more likely. We'll need to have $25,000.00 x 20 = $500,000.00 invested in our portfolio in order to reach this milestone, which we are on track to accomplish this summer!
Get ready: The next milestone is the big one, and it’s coming up fast!
You made it! You’ve reached financial independence. You’ve saved up 25 times your annual expenses, and with a little flexibility**, you can safely draw 4% on your portfolio, forever!
On Monday morning, if you decide to go to work, it's completely optional. You don’t need the money. You've finally attained the elusive ‘enough’ mentioned at length in ‘Your Money or Your Life’. What do you do now? Anything you want! Keep working if you like your job. Or retire early, whenever the mood strikes. Maybe work part-time on a favorite side hustle, or start working unpaid volunteer work. Whatever is meaningful to you, that’s what you should spend your time doing!
Your journey isn’t over though – far from it! Financial independence is just another milestone along the way. If you decide to keep working, your dollars are going to keep working too, earning more money faster than you can spend it. But if you decide to quit, your dollars will still keep working so you don’t have to!
The wife and I need to save up $25,000.00 x 25 = $625,000.00 in our investment portfolio to reach this milestone. At our current pace, we're expecting to cross this major milestone somewhere in the first quarter of 2018! If the markets make a 20% ‘correction’, as I suspect they might, this could push us back a few months, but as we discussed earlier, the Flex FI milestone is still there for us to fall back on.
Our plan right now is a bit of a hybrid: I’m planning on diving into early retirement as soon as we reach our FI number, while the wife is interested in a more gradual transition, reducing her hours and wading slowly into the early retirement waters. With this approach, we’ll be well positioned to weather any upcoming recession, saving up a nice safety cushion along the way.
Remember that this milestone is inherently tied to the 4% rule. In our post ‘How Long Will You Work’, I discuss how this rule came to be, and why it’s a great starting place for your FI planning. But some people might want to save up more of a safety margin, particularly those who don’t have side hustles or are less flexible in their annual spending. For those of you, the next FI milestone is just around the corner.
When you save up 30 times your annual expenses, you’ve reached what I like to call ‘FAT FI'. For those with very low risk tolerances, Fat FI provides a comfortable 3.33% safe withdrawal rate, which is, according to J.L. Collins, “as near a sure bet as anything in this life can be.” This milestone is essentially 120% of the financial independence number you’d calculate based upon the 4% rule.
To achieve this milestone, the wife and I would have to save up $25,000.00 x 30 = $750,000.00 in our investment portfolio. If we both continued earning at our current pace, and the markets remained somewhat stable, we would need to add on an extra year of work past FI to cross this milestone.
While some people may value the reduced risk, I’m not very happy with my career, so I’ll be pulling the early retirement trigger far before FAT FI. With side hustles in place, I’m sure our savings will one day cross the 30x expenses line, but I'm not going to sit around in a cubicle and wait for it!
The milestones above are just some of the many you’ll encounter on your journey to financial independence. For the wife and I, these are the landmarks on the trail that keep us motivated and on course. They allow us to look back at where we’ve been, and look forward to our next achievement. Each time we cross a new milestone, we pick up a bottle of Aldi champagne and celebrate being that much closer to our goals!
These financial landmarks make it clear that FI itself isn’t a specific number in your bank account, but rather just another milestone on your financial journey. With this in mind, retiring early can be decoupled from financial independence, and executed at any of the milestones in the second half of the the journey.
For example, you could retire when you reach the lean FI milestone, if you're willing to cut out discretionary spending. This could be a great choice if you don’t like your day job and want to focus on starting a side hustle, for example. Or, if you like your work, you could push early retirement back a few milestones and enjoy more gravy on your financial potatoes. Perhaps you'll take a break from work at the flex FI milestone, then go back part-time doing something fun a few years later. The choice is yours, and the possibilities are endless.
Over in the sidebar, I’ve added a countdown to our financial independence date, currently only 7 months away! This isn’t necessarily the date we’ll stop working- it’s just a best guess of when we’ll hit 25x our annual expenses in our passive investment portfolio. Of course, this is a moving target, so I’ll correct it from time to time as needed, and post updates here on the blog when I do.
I hope sharing these financial milestones keeps you motivated on your journey. Before you know it, you’ll be crossing them off at breakneck speed- just remember to slow down and smell the roses every once and a while. The journey is more important than the destination.
Where are you on your journey?
*Note that, in our chart, that the lean and flex FI milestones are pretty close together. This may look a bit different for you, depending on what percentage of your annual spending is discretionary. While flex FI will always line up with 20x your annual spending, the lean FI milestone may vary a bit on your financial map.
**Actually, you don’t need that much flexibility when following the 4% rule. You know that 96% success rate everyone quotes? That assumes a 50/50 stock bond split. Increase your allocation of stocks to a more reasonable 75%, and the success rate hits 100%. Check out the tables in the Trinity study, or pg. 213 of The Simple Path to Wealth for details.