The ABC’s of FIRE

The ABC’s of FIRE

July 22, 2019

Last week, I dug into what FI/RE is and how you can learn more about it. This week I would like to drill down on the building blocks (the ABC’s if you will) of FIRE.

Link to last week’s blog; Introduction to FI/RE

These building blocks will be the foundation for calculating how long it will take you to hit your FI/RE number.

Let’s think about it from a high level. What are the most important variables when calculating how much you can save and invest?

The way I see it, there are only 2. Your income (accumulation rate), and your expenses (burn rate).

You have direct control over these two things. You can work harder and smarter, and spend less.

The third variable, one which you will have a varying degree of success controlling, is your return on invest or compound rate.

These three things:

• Accumulation rate
• Burn rate
• Compound rate

Will form your timeline for how fast you can FIRE.

Accumulation Rate

Your Accumulation rate is fundamentally how fast you can make money. This is usually tied to wage income if you are a w-2 employee, but it doesn’t have to be! It is possible to break free of the corporate mold and make money on the side. (I write this blog for fun, but even it makes me a couple bucks a month!)

In addition to my 9-5, I also provide financial analysis for companies/individuals as a consultant, coach soccer, and enjoy trading stocks/options.

All of these things add to my accumulation rate! (They make me money)

Burn Rate

If accumulation rate is how much you make, obviously burn rate is how much you spend! You can calculate this as a dollar amount or a % of your income.

If you make 5k per month net of taxes and spend 2.5k, your burn rate is 50%. (This means your accumulation rate is also 50%)

If you spend 4K, your burn rate is 80%. So on and so forth.

Personally, my expenses are mostly fixed, and my income from my job is relatively fixed as well but the other side income is pretty variable. So if I burn 50% of W-2 on average, but everything I make on the side is just that much more I can invest, which will decrease my burn rate on a month to month basis!

On average, the lower your burn rate the more you can invest and the faster you can retire! There is only one more component to keep in mind…

Compound Rate

Your compound rate is the return you will receive for investing your money. I use 7% as that is the average stock market return over hundreds of years if you take inflation and taxes into account. (Reputable source on that here: NerdWallet - What Is the Average Stock Market Return?)

This WILL fluctuate, some years you make make 15%, others you may lose money. The point is to calculate how much you make in return an average.

The higher your return. The faster your money will make you more money!

In general, at 7%, your money will DOUBLE every ~10.3 years. You can use the rule of 72 to calculate this.

Take 72 and divide by the average return on investment, in my case it is 7.

So 72/7 = 10.28

If you were using 5% as your assumed average rate of return, your money would double every 14.4 years. (72/5 = 14.4) Because your return on investment is lower, it takes longer for your money to multiply.

More math explanation on why this works for my fellow nerds

Get a Solid Grip on Your ABC’s

The ABC’s are a simple guide for you to use when examining your time to financial freedom. At a high level, you basically want to:

1. Maximize A - Make more money
2. Minimize B - Save where possible, spend efficiently
3. Maximize C - Invest early, often, and well

Doing this will give you the best chance of building wealth and retiring early!

I think the easiest way for most people to do this is to focus on their career, definitely add in a side hustle or two based on interest/talent, be more thoughtful in spending, and invest in low cost index funds. (I talk about them more in THIS article)

If you have any questions in regard to any of these topics - feel free to give me a shout at the contact details on the home page or on instagram @MakeDollarsAndSense, I would love to hear from you :)

MDAS

If you thought this was helpful, terrible, or somewhere in the middle, please leave me feedback in the form of a Direct Message on instagram @MakeDollarsAndSense, or feel free to send me an e-mail/text to the information on my Home Page. I truly appreciate constructive criticism and opposing views, so bring em on!

P.S. New blog posts coming your way every Monday!

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