Achieving Financial Independence and Retiring Early (FIRE) requires meticulous planning and a clear understanding of your financial goals. At the heart of the FIRE movement is the FIRE number—the amount of money you need to accumulate to retire early and live off your savings and investments. Knowing your FIRE number is crucial because it provides a concrete target for your financial journey and helps guide your savings, investment, and lifestyle decisions.
This article will walk you through the process of calculating your personal FIRE number, with a focus on using the 25x Rule, and offer insights on how to adjust it based on your specific needs, risk tolerance, and lifestyle goals.
What is the FIRE Number?
Your FIRE number represents the total amount of savings and investments you need to accumulate to support yourself financially without relying on a traditional paycheck. It’s the nest egg that will generate enough passive income to cover all your living expenses once you stop working full-time. This figure is calculated based on your estimated annual expenses during retirement and how much you can withdraw each year from your portfolio without depleting it.
The 25x Rule: A Simple Way to Calculate Your FIRE Number
One of the simplest and most commonly used methods to calculate your FIRE number is the 25x Rule. The 25x Rule is derived from the 4% Rule, which suggests that if you withdraw 4% of your investment portfolio annually, your money should last indefinitely, assuming reasonable market returns and inflation.
The Basic Formula
To calculate your FIRE number using the 25x Rule, follow this simple formula:
FIRE Number=Annual Expenses×25\text{FIRE Number} = \text{Annual Expenses} \times 25
This formula works by estimating how much money you need to sustain your lifestyle. Here’s a step-by-step breakdown:
- Determine Your Annual Expenses:
- The first step in calculating your FIRE number is to estimate how much money you will need each year during retirement. Include everything from housing, utilities, food, transportation, healthcare, entertainment, and any other expenses you anticipate.
- It’s important to be thorough when calculating your annual expenses to ensure your FIRE number accurately reflects your future financial needs.
- Multiply by 25:
- Once you’ve calculated your annual expenses, multiply that amount by 25. This gives you the total sum you’ll need in your investment portfolio to safely withdraw 4% per year without running out of money.
- For example, if you estimate that your annual living expenses during retirement will be PHP 500,000, your FIRE number would be:
500,000×25=12,500,000500,000 \times 25 = 12,500,000
This means you’ll need PHP 12.5 million in investments to retire and cover your expenses indefinitely using the 4% withdrawal rate.
Why the 25x Rule Works
The 25x Rule works because it’s based on historical data showing that a diversified investment portfolio (typically made up of stocks and bonds) can generate average returns of 7-8% annually over the long term. After accounting for inflation (which typically runs around 2-3%), the 4% withdrawal rate has historically been sustainable, meaning you can continue withdrawing this amount without depleting your savings.
Adjusting the FIRE Number for Your Lifestyle and Risk Tolerance
While the 25x Rule is a great starting point, your personal FIRE number may need to be adjusted based on several factors, such as your lifestyle goals, risk tolerance, and expected market conditions.
1. Inflation and Future Expenses
- Over time, the cost of living may increase due to inflation. If you anticipate significant changes in your expenses (for example, rising healthcare costs or wanting to travel frequently), you may want to add a buffer to your FIRE number.
- Consider using a higher multiplier (like 26x or 28x) to account for inflation or unexpected expenses.
2. Conservative or Aggressive Investment Strategy
- If you prefer to take a more conservative approach with your investments, you might want to aim for a larger FIRE number to protect against market volatility. Instead of using the 4% rule, some prefer a 3% withdrawal rate, which would require multiplying your annual expenses by 33 instead of 25. This gives you an even larger cushion in case your investments underperform.
- Conversely, if you’re confident in your investment strategy and willing to take more risk, you may feel comfortable sticking with the 4% rule.
3. Types of FIRE
- If you’re pursuing Lean FIRE (minimal expenses in retirement), your FIRE number will be lower because you plan to live on a reduced budget. This often means cutting out luxuries and focusing only on necessities.
- If you aim for Fat FIRE (a more luxurious retirement), you’ll need a higher FIRE number to maintain a comfortable lifestyle with room for discretionary spending.
- For those pursuing Barista FIRE (part-time work to supplement retirement), you may not need as large of a FIRE number since your part-time income will cover some of your expenses.
Using a FIRE Calculator
While the 25x Rule is a simple and effective method, you can also use an online FIRE calculator to get a more precise estimate. A FIRE calculator allows you to input variables like your current savings, annual income, savings rate, expected return on investments, and future retirement expenses to calculate your personal FIRE number.
Here’s how to use a FIRE calculator:
- Enter Your Current Savings: Input the total amount of savings and investments you currently have. This forms the foundation of your financial portfolio.
- Input Your Annual Income and Savings Rate: Enter how much you earn annually and what percentage of that income you are saving or investing each year.
- Expected Rate of Return: Many FIRE calculators will ask for an expected annual return on your investments. Historically, a diversified portfolio of stocks and bonds averages around 7-8%, but you can adjust this number based on your risk tolerance.
- Estimate Retirement Expenses: Just like with the 25x Rule, you’ll need to estimate your annual living expenses during retirement. Be as detailed as possible, including everything from housing to healthcare to entertainment.
- Years to Retirement: Based on your current age and financial situation, input how many years you have until you plan to retire.
Once you’ve input all of this data, the calculator will provide a personalized FIRE number, showing how much you need to accumulate to retire early and live off your investments. Some calculators may also provide a timeline showing how long it will take to reach your FIRE number based on your current savings rate and investment growth.
Tips for Achieving Your FIRE Number
Reaching your FIRE number takes dedication, discipline, and smart financial decisions. Here are some practical tips to help you get there faster:
- Increase Your Savings Rate: The more you can save each year, the quicker you’ll reach your FIRE number. Aim for saving 50-70% of your income if possible.
- Invest Consistently: Consistent investing in low-cost index funds, real estate, or other diversified assets can help your money grow over time.
- Live Below Your Means: Avoid lifestyle inflation and live frugally, especially during your working years, so that you can maximize your savings and investments.
- Diversify Your Income: Consider side hustles, freelance work, or rental properties to generate additional income streams that can boost your savings.
- Reevaluate Your FIRE Plan: Life circumstances change, and so can your financial goals. Periodically reassess your FIRE number to make sure it still aligns with your future lifestyle.
Calculating your FIRE number is a crucial step in achieving financial independence and retiring early. By using tools like the 25x Rule and FIRE calculators, you can estimate how much money you’ll need to accumulate to support your desired lifestyle in retirement. Whether you aim for a lean, frugal retirement or a more luxurious one, understanding your FIRE number provides a clear financial target to work towards.
With careful planning, disciplined saving, and strategic investing, your FIRE number can help you live the life you’ve always dreamed of—free from the constraints of traditional work and full of freedom to pursue your passions.