(Financial Independence Retire Early)

Whilst the literal definition of FIRE stands for Financial Independence Retire Early, the movement is mostly centered around flexibility and, contrary to the traditional view of retirement, doesn't necessarily mean you have to quit your job. FIRE is about having the ability to shape your life without needing to have money at the core of the decision making process.

There are two important numbers to calculate when trying to achieve financial independence: the first is the necessary size of your investment pot and the second is the age at which you expect to have invested that amount. You can estimate these using this simple calculator and can build a more detailed plan in the Moneyed app .

The Moneyed FIRE calculator assumes:

- Retirement expenses are equal to your current expenses
- Investments grow at a fixed percentage of 2.5% above inflation
- Income grows at a fixed percentage of 1.5% above inflation
- There is a safe withdrawal rate (see below for more on this) that allows a percentage of your investments to be withdrawn per year for the duration of your retirement.

The amount you need invested to retire is equal to your expenses divided by the safe withdrawal rate. The age at which you can achieve FIRE is your current age plus the number of years it will take to build up an investment pot large enough.

The safe withdrawal rate is the percentage of your investments that you can withdraw each year and still end up with some money in your investment portfolio at the end of your retirement. People typically use a 4% withdrawal rate (also known as “the 4% rule”, or the “25 times rule”); this is based on a US study from 1998 . Similar studies for the UK market suggest that a **safe withdrawal rate between 2.5% and 3%** is a better choice.

Consider a yearly income of £60,000, which gives a take home pay of just over £43,000 after tax and NI, and yearly expenses of £20,000. Let's assume the remaining income (£23,000) is invested in an asset that grows at 2.5% above inflation.

We can calculate how big an investment pot is needed to FIRE. Using a safe withdrawal rate of 3% means that the investment pot needs be at least £666,667; this is calculated by dividing the yearly expenses by the safe withdrawal rate i.e. £20,000 / 0.03 = £666,667

Assuming the yearly income grows at 1.5% above inflation, we can also calculate how many years it will take until the investment is sufficiently large. The calculation is less trivial than the investment pot size, as it requires compounding interest, but looks like this:

Year 1:- Salary pre and post tax: £60,000 / £43,000
- Amount invested this year: £23,000
- Pot size = £23,000 x (1+0.025)

- Salary pre and post tax: £60,900 / £44,000
- Amount invested this year: £24,000
- Pot size = (£23,000 x (1+0.025) + £24,000) x (1+1.025)

Using the FIRE calculator shows that it will take 19 years to achieve FIRE.

The value of the safe withdrawal rate is critical to this calculation. People typically use a 4% withdrawal rate (also known as “the 4% rule”, or the “25 times rule”); this is based on a US study from 1998 .

The study compares a variety of withdrawal rates using historical US bond, stock, and inflation data. Funds are withdrawn yearly over 30 years and the simulation is deemed a success, i.e. the withdrawal rate is “safe”, if it does not completely deplete the portfolio (i.e. the ending value exceeds $0). The study suggests that most retirees would likely benefit from allocating at least 50% of their portfolio to stocks, giving a 4% withdrawal rate that proves successful 95% of the time.

Realistically, most people achieving FIRE will be retired for more than 30 years. A more recent study , again focussed solely on the US, finds that for a withdrawal rate of 4% and a portfolio containing 50% stocks, a retirement of 40 years has only an 80% chance of being successful. For a 50 year retirement, there is a 75% chance of success with a withdrawal rate of 4%.

Based on the updated US study, if you're planning to be retired for 50 years, a more realistic safe withdrawal rate is ~3.2%.

It's important to note that these studies do not take into account any fees associated with the funds, which could vary from ~0.25-2%, but do account for inflation.

Wade Pfau, a professor of retirement income, studied the maximum safe withdrawal rate for a 30-year retirement in the UK and found, for a portfolio comprised of 50% domestic stocks and 50% domestic bonds, not including fund fees, the safe withdrawal rate was 3%. The maximum safe withdrawal rate increases to 3.3% when considering a 50-50 portfolio of global stocks and bonds. It's important to note that the success rate for these withdrawal rates is 87%; this means that 13% of the time there is no money left in the fund after 30 years (and the fund could be depleted earlier, too!).

Morningstar, a financial services company that provides research insights on a range of investment offerings, suggests that retirees in the United Kingdom should use a lower safe withdrawal rate in the range 2.5% to 3% .

Given that the UK safe withdrawal rate is lower than the US, you could, of course, invest predominantly in the US for the better returns. However, given that your liabilities during retirement are linked to UK pricing (and therefore inflation), then portfolio construction and diversification becomes very important to mitigate the foreign exchange rate risks.

Given that prediction is very difficult, especially if it's about the future (thank you, Niels Bohr), and these studies are based on backtesting, which are in no way guarantees for future behaviour, the Moneyed calculator sets the default safe withdrawal rate to 2.5%. You can edit this to a safe withdrawal rate that you feel comfortable with, though.

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