Michael Allen is a Certified Investment Manager (CIM). Over the course of 14 years, he has managed money for high net worth individuals. Michael is a Senior Investment Specialist at Wealthsimple. Prior to this, he was an investment advisor with BMO Nesbitt Burns Securities. His financial advice has been published in the Globe and Mail, Toronto Star and many other publications. Michael has a fiduciary duty to his clients and holds a Bachelor of Commerce from Dalhousie University.
Early retirement is big these days. The emergence of the FIRE movement, popularized on Reddit, is emblematic of the trend. It stands for “Financially Independent Retire Early.” And that means early. As early as your 30s or 40s. Proponents of early retirement believe that through extreme budgeting and saving and smart investing, you can have financial freedom decades before your parents did.
The key though is understanding of what “early retirement” really means. Does it mean not working but maintaining the lifestyle you’re able to sustain currently, while you’re working? Does it simply mean having options—enjoying the freedom of deciding what you’re going to do with the last phase—and if you retire early enough we’re talking a long phase—of your life?
Almost anyone can retire early. It requires implementing all of the tools you’re already using for financial success in a disciplined, aggressive way. Retiring early requires a lot of sacrifice for most people. Aggressive budgeting. Aggressive savings. Aggressive investing. And that all amounts to, in most cases, aggressively austere living… for years. If you do all that, you will almost certainly be rewarded with the ability to retire early.
There are two big questions for people who want to retire early: How do you do it? And, after, you figure out how to do it, do you really want to?
What people mean when they say "early retirement"
Does it mean not working? Or does it mean having the freedom to decide what kind of work you want to do? Does it mean retiring from having any sort of career at all? Or does it mean retiring from the career that is giving you income now, fueling the investing required to get there.
In other words, does it mean escaping the drudgery of clock-punching? Because being completely retired with no job income requires a lot more money!
But let’s assume you’re looking to do just that. You want to break free of your corporate overseer and spend more time at home with your family or traveling the world. Here’s what you have to do:
What you have to do
Plan what retirement will look like
These are the big topline issues. What kind of lifestyle do you want to have? The one you have currently? Will you want to travel? Do you want to eat at great restaurants? Do you love expensive wine? Or will you?
Keep in mind that your health will be different and will change a great deal as you retire—as hard as that is to imagine at, say, 25. Factor that in to what you’ll need. And not only will you want to feel healthy, you’ll want to feel vital. What will support that? Cultural events? Travel? Certain hobbies? Are those hobbies expensive? There’s a big financial difference between building model planes and flying your own aircraft. Speaking of what you’ll need,,,
Figure out what you’ll need
There’s a helpful guideline for figuring out how much money you’ll need to retire. The idea is: Take you estimated annual expenses, subtract any benefit payments you’ll be receiving—from the government or your employer—and multiply that times 25. If you figure you’ll need $100,000 a year to maintain your lifestyle. And you’ll be receiving $5000 in benefits payments. You’ll need to save about $1 million.
That assume a retirement age of around 65 though. Early retirement will mean even more aggressive saving. To help you figure out roughly what you need by a certain age, a retirement calculator is the tool to use. There are dozens of retirement calculators available for free online. Some of our favorites include Bankrate’s and Nerdwallet’s. You enter your age, income, current savings, and how much you’ll be receiving in benefits, like a 401K in the U.S. or an RRSP in Canada. If you’re lucky enough to have a pension, you’ll need to factor that in, too.
Start saving now
The CRA provides a variety of tax breaks that encourage savings. And there’s GRSPs. Your savings will not only be tax-deferred, meaning you pay no income tax on any money you invest in it until you retire — but your employer may also kick in some money to match some, or even all, of your contribution. And there’s the RRSP, which is self-administered. Here’s a rundown of the various savings plans for Canadians
Cut your budget now
Retiring early require serious budget cutting. You want to get your spending totally under control and eliminate all unnecessary expenditures. Use this comprehensive guide to find ways to save. But here are some easy moves that you can implement immediately.
Set a budget and stick to it.
Automate your savings. Link your checking account with your savings account so money moves from to the other without you doing a thing.
Use an app that rounds up purchases to a dollar and then takes the difference and puts into an account you designate.
Take full advantage of your employer-administered retirement account.
Examine all recurring bills. You probably have subscriptions you don’t realize you have. Your cable is probably more expensive than it needs to be. Try and bring it down.
Examine food costs. Most people spend around 10% of their income on food.
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Invest your savings!
The longer you give your money the time to make more money the better. Investing typically (but not always) provides higher returns than leaving it in a savings account, provided you can be without your money for a long time. To save for early retirement, you’ll need to invest in the stock market. Though investing in stocks is inherently risky, historically it’s averaged an 8% percent return. When saving for early retirement, you want to put all your extra money into investments. Once you cut your monthly budget down to size, take that extra money and invest it.
Get a financial planner to help you figure out what your portfolio should look like. If you’re young, your financial planner with want to create a diverse, balanced portfolio full of index funds. And they will set that portfolio to “growth.” You’ll be investing in emerging companies and markets. As you get close to your retirement date, your advisor can help you dial things back. Your portfolio will become more and more conservative. But you can’t start out conservatively. What you’re attempting to do is something extremely aggressive—some people might say it’s impossible—so you have to go big.
That means investing in stocks—both domestic and foreign. That means investing in emerging markets and lots of exchange traded funds (ETFs) which lower your risk through diversification.
Because working with a personal certified financial planner can be expensive, a robo-advisor is a prudent option for the prospective early retiree. Because they automate so much of the work that a certified financial planner or stock broker will do, they’re much cheaper. And because they are specifically targeting young clients—people in their 20s and 30s—they are primed to help the young investor. You plug in your details and the robo-adviser will create a plan that will get you there. The best ones will offer real live people to support you should you need them.
Bus do you really want to do this?
The FIRE movement is deeply compelling. And it seems to make so much sense. If you can retire early, why not? But the ideas has its detractors. the most famous of which is financial meg-expert Suze Orman who thinks that FIRE savers tend to grossly underestimate their needs when they’re older. Some FIRE proponents think you need about $1 million in the bank. She insists it’s more like $5 million](https://www.marketwatch.com/story/the-biggest-financial-mistake-you-could-ever-make-according-to-suze-orman-2018-10-02). And she has a point. Think about it like this: You know how we and every other personal-finance expert or resource says past results can’t guarantee future ones? What we’re saying is: We have no idea what’s going to happen to the stock market or the world economy in the next 10, 20, 30 years. Just because things have been one way, just because the stock market has historically produced significant returns for investors, there’s no way of knowing that it will continue. Your life is exactly the same way. FIRE proponents tend to look at their lives as a fairly steady continuum. I can’t get by on $35,000 a year now, so I will need to get by on $35,000 a year in the future. But you might get sick. The economy might tank. Inflation may make all your liquid funds significantly less valuable in the future—even more significantly than they generally are. This is a big deal. Crises could upend your dreams.
The other factor is: Your 20s and 30s should be fun! And not buying things is… not so fun! Extreme savings can affect your social life. It can affect whether or not you have kids. It can fundamentally and somewhat artificially change your life. Of course, all that savings, may help you understand what’s really important to you. And if you don’t know what’s really important to you, how are you going to know how you want to spend those last 20, 30, even 40 years.
The bottom line
Early retirement is a worthy dream. But it requires a ton of work. If you’re up for some serious personal austerity and you’re willing to put off some of the joys of life, then early retirement might be move you can make. But you have to save and you have to invest and you have to be willing to wait. But once you get there, you’ll experience a remarkable level of financial freedom—and a long life ahead of you for enjoying it.
Now that you're ready to start saving for an early retirement, why not start investing with Wealthsimple today? We offer state of the art technology, low fees and the kind of personalized, friendly service you might have not thought imaginable from an automated investing service. Sign up now or find more details here.