Currently, the full retirement age for Social Security is 66.5 years old.
However, more and more people — especially millennials — are plotting an early retirement. Not because they're earning more money or dealing with less than debt than past generations. But because of an emerging trend in personal finance known as Financial Independence, Retire Early (FIRE).
What is Financial Independence, Retire Early?
Financial Independence, Retire Early — known as FIRE for short — seems pretty self-explanatory at face value. But devising an actionable plan is anything but.
Of course, those who embrace this frugal lifestyle are seeking just that — enough savings to quit work sooner than others.
But just how early is the goal? While the desired retirement age varies from person to person, the general consensus is as early as possible.
In order to do so, you need to become financially independent. And that doesn't mean "move out my parent's basement" independent. It means saving enough money to support yourself without ever working again.
The basic idea behind FIRE is to spend as little and save as much of your income as possible. The larger the gap between what you earn and what you live on, the sooner you will achieve financial independence.
But as you'll soon see, the reality is anything but simple.
Facts and figures behind FIRE
Although the concept itself is quite simple, putting an actionable plan in place is far more complicated. Let's crunch some numbers to get a better feel.
For starters, say you save 10 percent of your income each year. It will take nine years to accumulate enough to live on your savings for one year. Saving 25 percent will give you one year’s worth of living expenses in four years. If save half your annual income, then it only takes one year to accumulate one year’s worth of living expenses.
According to MarketWatch, it will take nearly 37 years to achieve FIRE if you save 20 percent of your income each year. Meanwhile, saving half of your income every year will propel you to FIRE in under 17 years.
(These projections assume a 5 percent annual return on investments and a 4 percent withdrawal rate each year.)
Now for the average professional, this sounds absurd. But not all high-earning doctors are cut out for this formula either. Besides years of crippling student loan repayments, doctors also begin their careers later than most. This gives them a lot less time to save.
Still, a physician’s salary does of course make it easier to achieve FIRE. If you earn $200,000 and can live on $100,000, you reach FIRE level in 17 years according to the above projections.
Steps to take to achieve FIRE
If the idea of FIRE sparks your interest, here are some basic steps you need to take to get started:
Determine when you want to retire. Between medical school and residency, that's usually about a decade of training. If you're passionate about your speciality, you probably won't want to retire in your early 40s anyways.
But say you’re 35 and would like to retire at 55. Although you only have 20 years of preparation, it is doable. To achieve FIRE, you will have to live on roughly 55 to 60 percent of your income for each of those 20 years.
Cut your expenses. All things considered, a physician’s salary should give you a better chance at achieving FIRE. That is, if you can live satisfactorily on a percentage of your income. In order to do so, you may need to place strict limits (or even give up) extras like:
- Frequent dining out.
- Gym memberships.
- TV and Internet packages.
- Luxury travel.
You may also want to choose a lower-priced home and car than what your income can afford.
Invest what you save. You will need to grow your savings in order to retire early. Make sure you take advantage of available retirement plans, such as a 401(k) or IRA. Others suggest putting money in high-interest savings accounts and low-cost index funds.
Common obstacles to achieving FIRE
As you establish your retirement savings goals, be sure to account for factors that may alter your expectations. Consider the following variables --- both internal and external:
Inflation will increase your expenses. Inflation typically increases the cost of goods and services by 2 to 3 percent annually. That means if you spend $40,000 in retirement one year, you will need an extra $800 to $1,200 the second year. Otherwise, you will need to cut expenses each year. Plus, the longer your retirement lasts, the more inflation will be a factor.
Taxes may cost more in the future. If you use tax-deferred savings accounts (a 401k or IRA), you will pay income taxes on your retirement withdrawals. And there’s a strong chance that tax rates will be higher when you need the money due to:
- Government deficits.
- Entitlement spending.
Other investments like stocks and mutual funds will require you to pay capital gains taxes when you sell them off.
Be conservative when estimating investment performance. Yes, there may be years your investments return 15 to 20 percent. But you can’t count on that happening often. To be realistic, anticipate a 5 percent annual return.
Don’t expect to increase your lifestyle in retirement. The lifestyle that allows you to retire early will need to remain in place to preserve financial independence.
Many who follow the FIRE movement use a 4-percent withdrawal rate. That means each year you’re retired, you withdraw 4 percent of the total value of your savings. This approach has shown that savings can last at least 30 years.
FIRE isn't for everyone. But given your high income potential and solid job stability as a doctor, you're better suited than most.
Even with a late start in the working world and mountain of student debt to repay, a smart, actionable plan can still pave the way to early retirement. To figure out where you stand, it helps to get comfortable with:
- The numbers behind FIRE.
- Steps you need to take to achieve FIRE.
- Common barriers doctors face in reaching FIRE.
By doing so, you should be able to determine whether a FIRE future is a real possibility or merely a pipe dream.