My “go to” answer to any of my kids’ questions is always: science. Try it. It works for a lot of things. “Why is the sky blue?” Science. “Why can’t I eat cake every day?” Science. “How do the ghosts in Haunted Mansion at Disneyworld look so real?” Science. “How are babies made?” Science. If they want real answers, we usually look it up together online, check out a book at the library (I prefer visual aids included in my explanations), or I send them to Mr. T who has both endless patience and an endless trove of random facts to share (aglet = the plastic or metal thingy at the end of your shoelace. Didn’t know that? Mr. T says “you’re welcome”).
In terms of money, the answer is always: Math. How do I know how much to save for retirement? Math.
Actually, I changed my mind. The answer is always: Spend less. How do I know how much to save for retirement? Spend less. Let’s explain.
We’re going to use the 4% rule to explain how much you need for retirement. Google it if you want to know the history, theory, and reason we’re using the 4% rule. Though there is argument, it’s still pretty much the standard. It says that you need to calculate how much you need based on only withdrawing 4% of it every year. The easy way to calculate this is to multiply how much you want per year by 25. So, if you want to live on $50,000/year, $50,000 x 25 = $1.25 million. $100,000/year, $100,000 x 25 = $2.5 million. Sure you can get math on your side and through the power of compounding become super wealthy and live exorbitant lifestyles every year until you die. OR… stay with me here… you could SPEND LESS. Let’s do the math. Say you cut your $50,000/year lifestyle to just $35,000, you don’t even have to be a millionaire before retiring. $35,000 x 25 = $875,000. What if you can cut that down even more to say, $20,000/year? $20,000 x 25 = $500,000 (this is the number we’re using for our goal). But the key is that you have to spend less NOW. You can’t assume that if you’re living a $100,000 lifestyle now that you’ll be able to just jump to $30,000/year when you retire. My guess is that you’ll hate yourself and your life or you’ll go broke (or both). This involves a lifestyle change. Again, we’re all about balance here, but you can’t have everything. If you want to spend $100,000/year, you either need to make a whole lot of money and save most of it, or work for 30+ years. If you want to retire early and get to financial independence earlier, you need to spend less.
A lot of people in the early retirement community will throw around percentages of income saved. And they’re all saving a very impressive amount of their income (usually more than 50%). This is fabulous, but I don’t love this metric. I’ll use math again to explain why. Say you and your spouse make $200,000/year. You can say: “We save 70% of our income!” and that means you’re still living on $60,000/year. If you make $100,000/year and save 70%, you’re talking more like $30,000 to live on, which is a better range. But still. Mr. T and I don’t make $100,000 a year. Even combined. Saving money is key. And we’re all about it. But we probably won’t ever be in the “70% of income saved” club. We’ll stick to just saying that we save as much as we can. And we spend less.
J. Money has covered the basics as to why you’re poor. The simple answer to “How do I retire early?”: Spend Less.