Grant Sabatier, creator of financial site Millennial Money and author of Financial Freedom, isn’t technically retired. But he might be. He has enough money in his portfolio to live on without having to work again. That’s the point.
Sabatier is one of the main voices of the so-called FIRE movement – short for financial independence, early retirement. People who adhere to this philosophy aim to save and invest most of their income in their early income stages so that they have enough money to retire for decades before they reach their 60s.
By 2015, Sabatier, 30, had saved $1.25 million, enough to ensure he never had to work again. But instead of playing football at the beach, he started a new career teaching others how to be financially independent.
Over the past seven years, Sabatier has seen his FIRE success story, as well as the common pitfalls encountered by early retirees. If you’re considering starting your FIRE journey, there are two potential problem areas you need to understand now so you don’t run into them, Sabatier says.
1. Retire before building your post-career identity
Planning for early retirement requires you to understand what life will be like after get off work, which can be difficult in a society where people are often determined by their jobs.
“Our identities are largely tied to what we do and what we do in our careers,” Sabatier said. “A lot of people spend all this time working and saving and investing to retire early and then they don’t know what they want to do.”
That can make it tricky to know how much to save, considering that retiring to the beach in Thailand, writing a novel in a coffee shop, or traveling the country in a van requires different financial photos.
One way to narrow it down is to focus on your core values. Jim Creed, a certified financial planner who specializes in clients seeking financial independence, recently told CNBC Make It that asking which parts of your life bring you the greatest happiness can help you gain a clearer picture of what you want.
“If you can articulate what’s important to you, then your vision will be clear,” he said. “You can spend your money in the most efficient way. You can make the things that matter most to you happen in a bigger, grander way.”
Still, Sabatier says, no matter how clear your retirement vision is, some field testing may be necessary. If you’ve built up enough cash savings to cover expenses for a year or more, try a “mini-retirement” to see what it’s really like to live away from the office, he suggests.
Or start pursuing your passion while you’re still working. “That’s one of the biggest reasons I recommend trying a side hustle so you can start doing something you love to make money. Actually, then use it as a bridge to where you want to retire early.”
2. Underestimating how much it will cost to retire
If you don’t save enough money, your dream of early retirement won’t come true.
“I see a lot of people who retire today with enough money to cover their annual expenses, but they don’t estimate that adding two kids or moving to a more expensive area will increase their expenses,” Sabatier said.
Potential early retirees are looking for numbers known as their “FIRE numbers” – the amount they need to live permanently in their portfolio.
The calculation used to find it is based on the “4% rule”, an investment concept derived from an influential 1998 financial study that assumed that investors holding a portfolio of stocks and bonds could withdraw their portfolio each year 4% of the value.
To find your FIRE number, if you assume a 4% withdrawal rate, you need to multiply your expected annual income in retirement by 25. Someone looking to withdraw $50,000 a year from their portfolio would need $1.25 million to retire.
When people don’t take into account how the equation changes over time, they get stuck, Sabatier said.
When you started your FIRE journey in your 20s, you might think $50,000 would be enough to live on, but by the time you’re 45, your needs may have changed dramatically. You may need to adjust your numbers upwards before you can achieve the retirement you envision.
You may also need to adjust your assumptions to see how quickly you can hit your numbers, Sabatier added. This is because safely withdrawing your investments relies on the assumption that the market will continue to rise. While this is a long-term trend, it can be difficult to predict where your investments will go between now and when you want to exit.
“We know we are living in increasingly uncertain times. I see a lot of people underestimating and overestimating the potential future performance of the stock market.”
Sign up now: Get smarter about your money and career with our weekly newsletter
do not miss it: Inflation up 8.3% since last year – Fed may be on the verge of raising rates