Our Journey to Financial Independence: Where We’re Going

Mountain Road

This is the second of a three part series detailing our journey to financial independence.  Part One covered how we have done to date and what has gotten us there.  Part Two will explore where we go from here, including the impact of potential actions we are considering with our finances.  Part Three will review the workings of a downloadable Excel model you can use to calculate your own progress towards Financial Independence.  Enjoy!

Where We’ve Been

If you haven’t yet read Part One, please start there as it will give you some good background on how we’ve reached where we’re at.  Here are the highlights:

  • 50% of the way to financial independence (based on a 4% withdrawal rate)
  • 8 years remaining until we get there
  • Largest drivers of progress towards FI have been high annual savings rates and a big drop in expenses when we changed jobs/lifestyle

Where We’re Going (Or At Least Planning to Go)

I’ve based all my analysis of where we’re going on our current financial situation.  And I can tell you that it’s going to be 100% wrong.  Our spending and saving will change over time.  We’ll earn more or less than a 4% real return on our investments.  We’ll make changes along the way that will absolutely impact where we end up.  That said, there still is value in planning, if nothing else to validate that we’re in the ballpark.

If (and it’s a BIG if) we keep the same level spending and savings, and earn our projected returns, we will cross the magic 100% to FI threshold in 2025.  If we go with a more conservative 3% withdrawal rate, that extends out to 2029.  The ultra conservative scenario is off the chart, but we will likely have stepped back from full time jobs well before then anyway.

Projected % to FI
Projected % to FI

Turning to years remaining until we reach FI, you can see that it perfectly gets one year closer each year that goes by.  There’s no trick to it, it’s just the way the math works because we are looking at the base case with no assumption changes.

Projected Years to FI
Projected Years to FI

But What If Things Don’t Go As Planned?

What if?  Don’t you mean when things don’t go as planned?  All of our math is based on assumptions that get more uncertain the further out in the future we go.  I don’t want our ability to reach financial independence to depend on assumptions so rigid that one misstep throws us off track.  To help me sleep better at night, I stress tested the various assumptions to see where we risk going astray if things don’t work out as planned.

Investment Returns

What if I’m wrong about the 4% real return on my investments?  I’m basically relying on my portfolio to return 4% more than whatever my annual spending grows by.  I’m comfortable with the assumption given my asset allocation and historical returns.  But what if it’s different this time?  The less I depend on returns to grow my portfolio, the more I have to rely on savings.  And savings take time.

Years to FI-Withdrawal Rate vs Real Returns

At a 4% withdrawal rate, our time to FI expands to 15 years.  Not great, but manageable.  If I assume more conservative withdrawal assumptions it takes even longer.  That’s because you have a much bigger required portfolio to hit and even less investment returns to help get it there.

Change in Annual Savings

While we currently have been saving about 40% of our after-tax earnings, I may not be able to keep up that pace.  We could suffer some sort of income decline that would cause our savings to decrease.  Our employers could decide to be less generous with the match on a 401k.

Change in Years to FI-Savings Sensitivity

If we found ourselves in any of those situations, however, it wouldn’t have a huge negative impact on our journey.  Even if our annual savings dropped by 25%, we would only have to work about one year longer, all else equal.

I was surprised at this result and that a big drop in our savings would have such a muted impact.  I suspect that the fact we’re already halfway to FI has a lot to do with it.  Because we’re so far down the path already, we really have to make drastic changes for it to make a big difference.

Change in Annual Spending

I can say with absolute certainty that our annual expenses will change from year to year.  Costs go up whether you like them to or not.  I also know our own situation will change dramatically as we will have a second kiddo in daycare starting sometime next year.

Change in Years to FI-Spending Sensitivity

Similar to the impact of a shock decline in savings, I was surprised at the results of an increase in spending.  I would have expected the impact to be bigger, and suspect the reasons why it isn’t are the same.

Even if we started spending 25% more than today, we’d only add 3 to 4 years onto our time to FI, all else equal.  Remember that increased spending equals not only a higher required portfolio balance, but also missed savings, so there is a double whammy.

Investment Portfolio Decline

We’ve all been the beneficiary of a massive run-up in the stock market, but what if it corrects sometime soon?  Even here, we don’t have major exposure and only would have to extend our working by a few years.  Interestingly, the assumed withdrawal rate doesn’t impact anything here like it did in the other scenarios.

Change in Years to FI-Portfolio Sensitivity

I think being relatively far down the path to FI actually hurts us a bit here since this stress case impacts what we’ve done to date vs. what is yet to come.  The fact we have a relatively high savings rate and low expense really helps cushion the blow.

Stress Testing Summary

After running all of these various stress tests, I feel pretty good that we’ll be able to continue on our journey to FI if (and when) things change.  Because we’ve already done a lot of the heavy lifting, it’s going to get even harder to knock us off course.

Ideas for Further Improvements

I’ve never been one to settle for just the status quo, except for investing in passive index funds!  Even though having only eight years to go until FI is nothing to complain about, I’m always looking for ways to improve.  Until the time to FI is zero, I’m going to try to get it even lower.

I’ve been exploring a couple different options for financial moves I can make in the upcoming year and wanted to see how they might impact our percent and time to reaching FI.  Luckily, the Excel model we’ll be going over in Part Three has the ability to test the impact of changes in spending, savings and investment portfolio have on FI.  You can then see which ones are most beneficial to undertake.

PVF’s Ideas for Implementation

There are five ideas I am currently exploring to improve our financial picture in the next year:

  • Pay off Car Loan.  I can already hear the gasps and shrieks of disgust, but we borrowed the money to buy our second (!) car.  It was a super low interest rate and didn’t require us to put anything down.  We are currently paying about $450 a month and have $23,000 remaining on the note.  Paying it off would free up $5,400 a year for new investing, but we’d have to sell investments in order to pay it off.
  • New Real Estate Investments.  I currently have a few investments with Realty Shares and Fundrise.  I’d like to build this out more in order to build additional passive income.  I would borrow against our primary residence (in the form of a HELOC) to fund these investments.  While our investment portfolio balance would go up as a result, I’m projecting that it would have no impact to our spending or saving as the current returns are sufficient to pay the interest costs.  I think I’ll still be able to earn the 4% real return on top of that as well
  • Mrs. PVF Increases Hours at Work.  My wife is currently on maternity leave, but has arranged with her employer to only work 4 days a week when she returns.  When she’s ready to go back to full time, we’ll immediately see a 25% increase in her gross pay.  Since there won’t be any expense changes when she does this, every bit of the increase other than marginal taxes will fall to savings.
  • Decrease Unneeded Insurance.  It’s a topic for another day, but I suspect that we are over-insured in a couple different areas.  We have life, home, auto, umbrella, life, disability…you get the picture.  While I still need to do a more detailed analysis, my gut tells me would could cut out at least a couple hundred here, if not more.  All of that would flip to additional savings.
  • Other Misc. Savings.  I know there is fluff in our annual expenses, just look at how much I’ve spent on certain cuisines.  If we exhibit a little more discipline with expenses, I’m sure we could find additional money to redirect to savings.

I ran each of the above ideas through my FI model individually and here are the results.

% to FI Impact of Changes

Adding new real estate investments had far and away the largest impact, followed by tightening up the budget and paying off the car loan.  Mrs. PVF working more doesn’t have any impact on % to FI, but that makes sense since there is no impact to the investment portfolio balance or spending.  It will, however, impact the time to FI as a result of the additional savings.  You can see that impact below:

Years to FI Impact of Options

Each one of my potential ideas individually knocks a year or more off our time to FI except decreasing our unneeded insurance.  Finding miscellaneous savings has the biggest impact since it both reduces the size of the portfolio required and increases the savings contribution to it.

Total Impact of Potential Changes

When you combine all of the potential changes together, it will increase our baseline % to FI from around 50% to just under 70%.  That is a huge jump if we can execute on these changes.  And while it is less impactful under more conservative assumptions, it is positive movement nonetheless.

% to FI Pro Forma
Percent to FI – Before and After

At the same time, combining all of these changes will put us under 5 years until FI and only about 12 years under really conservative assumptions.  That would make me 45 years old.  I think I can handle work until then, and it’s good motivation to keep going!

Years to FI Pro Forma
Years to FI – Before and After

What about Social Security?

You may have noticed I haven’t discussed Social Security at all as part of our journey to Financial Independence.  I simply have no way of knowing what it will look like by the time I would ever be in a position to claim it.  Will it still exist in its current form or will I only get 75% of benefits as some have predicted?

I also only have 11 years of really paying into it.  What I ultimately am able to get will be highly dependent on what I earn/pay in taxes for the next 20-25 years.  I don’t want to have circular logic in my planning where my ability to reach FI is dependent on receiving social security benefits that are based on working past FI.  It’s easier to just exclude it and only think of it as a bonus should I ever collect.

Summary

Writing posts like this have been very beneficial for me as it really helped shed light on where we sit financially beyond just calculating our net worth.  Just as important, it helps me see where we are going and that absent something truly catastrophic happening, we are going to be just fine.  You can’t underestimate the benefits of sleeping well at night because your financial house is in order.

Check back soon for Part Three where I will walk through the FI analysis tool that I used to calculate my metrics.  Where are you projecting your path towards financial independence will take you?  What can you do to bring it even closer to reality?

John started Present Value Finance in 2017 to share his experiences and insights on personal finance to help people make better decisions and take control of their financial lives.  

He achieved financial independence in 2016 by walking away from the high stress world of corporate finance to focus on his family. He’s a husband, father, family CFO, and all around finance geek.

2 comments

  1. John, I like that you are looking at the impact of individual decisions and how they may effect your retirement date and/or spending/withdrawal opportunities independently. I also like that you are open to working with a range of withdrawal/spending that isn’t locked at one singular rate (typically 4%). I think we have taken a similar approach that we are focused more on a range of spending in terms of dollars, not as a % of whatever our accounts look like at the time. I may have missed it, but are you factoring in any assumptions for inflation? (or is that to come in part 3)?

    We also are not counting on relying on Social Security necessarily, but have run estimates on likely future income as part of our fall-back/what if scenarios. The SS website does allow you to assume a retirement age less than age 62 – essentially putting in a goose-egg for the years in between when you stop working and when you could retire. That’s essentially what you are talking about since you won’t be continuing to add to your earnings record. The only downside is they assume you collect at age 62 and won’t let you raise that to 66 or 70 if you wanted to see the effect of waiting to file.

    1. I’m factoring in inflation implicitly by making the future return assumption real versus nominal. If I wanted to have my spending grow 3% a year to account for inflation, I’d increase my investment return assumption as well. That would move me to 7% returns, which is closer to the long term (nominal) returns of the stock market. The math works the same either way.

      Good call on the social security website. I’ve played with it before but struggled to get comfortable with the numbers given how far I am from “traditional” retirement age. For example, if it tells me I could collect $2000/month at age 62, is that in 2017 dollars or 2046 dollars (when I could be getting it)? Given that the trust fund will be out of money by then and benefits will be reduced absent a fix, I think it’s prudent to only rely on my own money for determining FI. I’m going to treat it as a bonus.

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