Over the last few years in particular there has been a massive new movement happening around the world. It is known as the FIRE movement. FIRE is an acronym for Financial Independence Retire Early. There have been many who side either for or against this movement. This blog is part of that movement. This post will serve to help explain what it is and how you can benefit from it.
FIRE
The FIRE movement has actually been around for a long time, people just didn’t know what to call it. But in recent years there has been a huge increase in people talking about it, and sharing it through podcasts, blogs, books, documentaries, etc. I believe most people when they hear about it get the “shiny object” syndrome and think it is the coolest thing ever, but lack initiative and motivation to do anything about it. Maybe others have the motivation but lack the knowledge on how to move forward.
I myself first learned about the concept of FIRE and truly understood it around January 2018 or thereabout. I was already heavily involved in listening to podcasts and reading about real estate investing. I was already planning to use that as a source of additional income to help support my retirement and even current living expenses to help care for my Mother and family. During one of these podcasts I learned of travel rewards. People have mastered the skill to use credit card points to travel the world for free. This intrigued me because we would need to travel to South America to visit my wife’s family and if we could do it for free or at least at a lower cost that sounded good to me. As I followed that rabbit hole, it led me to other resources, books & podcasts that were focused on Financial Independence (FI). And again, the concept was always around, but probably just seemed impossible to most of us. Many of the early movers in FI reached their early retirement because they had a large six-figure income. In my mind I was always like, “sure, easy to do when you make $300k per year.” I was making less than $60k as a household income so if I could earn that large income and still live off what I was making now, then sure, anybody could save up enough to retire.
Although this was the situation for many of the early retirees, it wasn’t always the case. There were some who just made smart financial decisions even while earning a lower wage. They lived frugally, not spending on things they did not need. Not buying new, expensive cars. Not buying a big house they couldn’t afford. Not eating out every day. The list could go on. So what I learned was that I was already basically living the right way. We drove old paid off cars, I always took a home lunch to work to not spend on lunch every day. We rarely ate out or went to the movie theater, usually only for special occasions. We actually bought most of our clothes through Goodwill or other thrift stores. The ones in our area at the time in Omaha, NE were amazing. You could get top-quality clothes, often with the tags still on them. I bought several suits and Tommy Bahama and other similar brand clothing often for just $1 each. Other Goodwills I have been to in other states are nowhere near as nice as the Omaha locations. I do miss that.
The point is that even with a low income wage, you can reach financial independence and retire early. The most important thing to control is your spending. Stay out of debt and don’t get into debt. And this is referring to unnecessary debt. Most of us will need to take on debt to buy a house and probably to buy a decent car. But you don’t buy more than you need. The good thing about having a low income lifestyle means that you need less savings or income to be able to retire on that same level. If you know you only need $30k per year of actual spending money compared to someone who needs $100k to sustain their lifestyle, the lower amount can be reached pretty easily. Much easier than you would imagine.
HOW to get there
I’ve mentioned this before but there are several components to be able to reach FIRE. With a high income you can do it using all methods. For everyone else, it can be done building one piece at a time or stick to the one you like most and make it grow. Most people reach FIRE in one of these main strategies, there are of course many ways to do it but these are the primary sources:
1- Invest in Index Funds
2- Create a business
3- Invest in Real Estate
I’m not going to include ‘Win the Lottery’ because that is a pipe dream and relies completely on luck. You have no control over winning. Let’s explore each of these a bit more in depth.
Invest in Index Funds
Why Index Funds you ask? Picking individual stocks that will provide excellent returns is not easy. Yes, anybody can do it. Open an account with any online brokerage and put some money in it and buy whatever. I tried this at the right time in late 2008 and early 2009. It worked out pretty well for me but only because I bought at the bottom of the market. But even then, some of the ones I bought still went bankrupt and still lost. And I didn’t have a lot of money to make any real difference. Let’s say I got a 3,000% return. That sounds great, right? Yes, but that 3,000% return really only makes a difference if you invested a large amount of money to start with. $50 compared to $50,000 getting the same return is vastly different. One is life changing and the other is just a small celebration that you made some money.
Index funds help to eliminate the guesswork of which stocks to buy. They do this because they just buy them all. They can be categorized to a specific niche such as tech or international stocks. Some buy all of the major stocks that make up the S&P 500. By doing this, yes, you do forego the huge wins if you would have bought Netfilx for $3 20 years ago. But at the same time you do get that win, just on a smaller scale. But you also get all the other wins. And you save yourself from the huge losses as well like if you had all of your life savings invested in Worldcom when they became worthless overnight. By using an index fund you can safely add your money consistently to the fund and let it grow over time. In most cases they tend to beat the market and in a long-term horizon some of them will be well above market returns. The common favorite in the FIRE community is Vanguard Total Stock Market Index VTSAX. And just about any other Vanguard fund. The reason Vanguard is so popular is that they have very low fees. Some other companies charge very high fees which can make a huge difference in your end result. You can open a Vanguard account and purchase VTSAX with a minimum of $3,000. If you don’t have that much and want to get started with it anyway, you can open an online brokerage account wherever you prefer, Schwab, TD AMeritrade, etc, and purchase the same thing in the form of an ETF using the ticker VTI. Then you can invest whatever you can along the way and let it grow as well. The point is though to ‘set it and forget it’. Put your money in and leave it alone until you need it in retirement. Many people get scared whenever there is a slight market correction and they see the value go down. That would be the absolute worst time to sell out of it. Just leave it, let it ride and keep adding to it.
The way this works to retire early is once you know how much you need to live off of each year, again we’ll say $30k. You take that number times 25. $30k x 25 = $750,000. That’s how much you need to retire keeping your same lifestyle. Financial gurus like Suze Orman will tell you that is insane, you need several million to retire. Here’s how it works. You should be able to safely withdraw 4% of your wealth each year. 4% of $750k is $30k. The fund is expected to earn an average of 8% per year. So, if it is earning 8% and you are withdrawing 4%, your money should last you forever. Congratulations you have purchased a money-making machine! Obviously it is impossible to say that it will always earn 8%. Could be much less, could be much more. But as long as you don’t inflate your living, you should be fine. Worst case scenario, if everything drops in value you can always go back to work. Get another job like anybody else would do if they lost their job. The hard part is saving up that $750k nest egg. Not easy to do when you have a family and earn a modest income. Still doesn’t hurt to get started anyway to get something growing in your favor. You can learn a lot more on this from the book The Simple Path to Wealth by J.L. Collins.
Create a Business
Another proven path to FI is to create your own business. Be your own boss. This is the dream of most people I think. Ever since I was in High School this is what I wanted to do. The problem was I could never think of an idea of something that would be successful that I wanted or could do. So yes, this is a great way to reach FI, but also kind of hard to do if you don’t have a great idea to do something or no skills. This is where you have to do some self-reflection. What are you good at? What skills do you have? Are you a great mechanic and could start your own mechanic business? Are you great at interior design and could help people design their dream room?
There are many ideas out there and growing every day with new technology. 10 years ago there were no tablet and phone repair shops. Now they are everywhere. You could simply sell products on Amazon or eBay. Do you like to fly drones and take pictures? You can get certified to be a drone pilot and offer drone filming or photo services and take pictures of houses for Realtors. You can easily become a public notary and be a traveling notary that gets sent to locations when people can’t go to a notary. Either of those last two can earn you several thousand each week, depending on how much you want to work. The beauty of having your own business is that you can set your own hours and work when you want to. If you love to write you can become a self-published author on Amazon. I am in process of doing this one myself. And you can even get started with your own blog. Blogging can serve as a way to help others but also a way to earn additional income. If you want to get started blogging and get it done right without spending thousands for some ‘guru’ training, use this link HERE to get free training.
Starting your own business is good but also may not be so easy. The work involved keeps many away as well. Either the time commitment, the fear of failure, or the steps involved to get it set up and running. Depending on your business there could be high start-up costs as well. Be sure to consult with a CPA and/or attorney to be sure you don’t leave out anything important. You want to be protected against lawsuits and not get into trouble with the IRS.
Invest in Real Estate
This is by far my favorite out of the big 3. There are many reasons why and there is no way I can cover it all here. But intend to get it all out in several posts on this site. Real Estate is the I.D.E.A.L. investment choice.
I – Income : Income producing asset
D – Depreciation : A tax benefit that offsets the rental income received
E – Equity : The tenants pay down your mortgage while building up your equity
A – Appreciation : Over time the value should go up
L – Leverage : Use other people’s (including the Bank) money
Most of the millionaires in the world got there with Real Estate either as their primary source or at least secondary source. Even business owners invest in Real Estate as a way to build wealth and a safety net if the business fails.
As an Income producing asset, this means it is not a liability. Your car and your primary residence many consider an asset, but they are usually a liability. They don’t make you money, they cost you money. We’ll explore in a later post how to change that. But keep in mind part of reaching FI is that you have to stop buying things, and instead buy income producing assets. If you buy right, your rental property will produce a good return on your investment and provide additional monthly income.
Depreciation is a funny thing. The US Government wants you to invest in Real Estate. There are actually many tax benefits for the Real Estate investor. Passive income, which is what rental income is, is taxed lower. Any asset is considered to depreciate over time. The government expects it to wear down and therefore you can take this depreciation as a loss on your taxes. In most cases the depreciation is enough to offset any gains you earned virtually eliminating any taxes owed.
The Equity in your property starts with what you paid for it and how much you put down. If you can get it at a discount so that it is worth more than you paid you will get built-in equity. Equity is the difference between what the property is worth and how much you owe on it. So if I have a property worth $200k and have a bank loan for $150k I have $50k in equity. But the benefit of a rental property is that the tenants paying rent are essentially the ones paying down your mortgage. As it gets paid down you owe less, and therefore your equity goes up. Over time this can add up and be a huge benefit later on either to sell it for cash when you want to use it in retirement, or get a tax-free exchange to use it to buy something bigger that produces more income. This is called a 1031 exchange, or like-kind exchange. Another tax benefit that allows you to defer any taxes owed so you can put it toward another real estate investment. Otherwise when you sell, you not only have the capital gain tax to pay, but you also have the depreciation recapture. Yep that tax benefit you earned while it ‘depreciated’ you have to pay part of that tax benefit back when you sell. Unless you use the 1031 exchange. Speak with a CPA or 1031 exchange expert about the proper way to do that. You can ask your local Title Company for help on where to go as well.
Appreciation is just referring to the value of your property going up. There are of course times when values go down, but over time they tend to go up. Just like stock investing, there can be times when values go down, but in the long-term they follow an upward trajectory. So if you buy it right, as a positive cash-flowing property, you should be able to weather the storms and come out ahead in the long run. Higher appreciation means higher equity while at the same time your tenants are paying your mortgage. So you get the double benefit of increased value and decreased debt on the property which translates to a higher net worth.
Leverage is probably the main reason anyone can get into Real Estate investing. Leverage means using other people’s money to help achieve your goals. This can be through private lenders or even just the bank. Think about this for a moment. If you want to own $100k worth of Apple stock, how much do you need to buy? Or if you want that $750k sitting in that index fund? You pretty much need to pay that full amount, or have bought them 40 years ago and let them grow. The point is you can’t expect to buy $100k worth of stock for $20k or less. But with Real Estate you can. And the less of your own money you spend, the better. Less out-of-pocket gets you a higher Cash on Cash return, or Return on your Investment (ROI). If You want to buy a $100k rental property, you don’t need $100k. You need to have maybe $20k, possibly less. Some lenders will take 10% down. If you can work out a Seller financed deal, where the seller acts as the bank, you may be able to put down even less. I have heard of cases where someone purchased two properties from a seller for $5k total down payment. There are many ways to structure a deal with creative financing. The important point to keep in mind is that is must cash flow. If it is losing money, it is not a good deal. I’ll cover how to properly analyze a rental property in a later post.
Shortcut to FI
Using leveraged Real Estate, you can reach your FI income level much faster and with less money. Remember that $30k per year minimum income level we discussed earlier? That translates to just $2,500 per month. That is your minimum to earn each month of actual cash flows to sustain your lifestyle. Do you want to get there saving $750k? Or would you like to get there in just a few years? This can easily be done in 5-10 years if you make smart moves. My first property I leveraged with 10% down. It took $26k down payment, most of which I borrowed from my 401k. That property produces $1k per month in cash flow. That is what is left over after paying all expenses after receiving the rental income. For the $30k lifestyle, that gets me halfway there. And with $1k per month which equals $12K/yr that is almost a 50% Cash on Cash return. Meaning in about 2 years I’ve earned back my initial investment. About a year and a half later I was able to buy two more properties which in time as rents are raised will also bring in about $1k/month each. So basically in about 2 years time, I was able to reach that $30k level. Remember, I started with basically very little out of pocket expense. I borrowed from my 401k for that first down payment. Then I let those cash flows build up to buy another. I plan to keep doing this, letting the cash flows build and recycle them to buy more until I get to the level I am comfortable with to be able to leave my job and have enough extra cushion for any emergencies that come up. The great thing about that too is that I will be able to always have that money coming in and do very little to no work to get it, AND over time rents should increase as well so that amount will be going up.
This is why I love Real Estate investing and is my #1 choice for wealth building. You can get to FI on a low income and get there maybe even faster than the high income earners because you already know how to live on a budget and control your expenses and can get your FI income with very little savings needed to get there. It’s amazing! But you must be careful to not just buy any rental property. There are many for sale that will say ‘Great Investment!’ but the listing agent has no idea. 99% of the listed rental properties are bad investments. You must take the time to properly analyze them and only offer on ones that will work for you. Don’t buy anything just go get started. You want to start right. Keep following my Blog to learn how. Reach out with any questions you have or if you want my opinion on any property you are considering as a purchase. Many of the people who have reached FI, eventually started investing in Real Estate as well. Their #1 regret has always been not investing in Real Estate sooner.
You can get to FI in many ways. You need to find the method that works best for you. Once you get to a comfortable level you should consider expanding into the other methods as well. Having multiple income streams is beneficial to keep you protected when one of them takes a hit so that your overall income is protected as well. This is called diversification when talking about stock investing. But is is good to consider here as well. I also do it geographically. I like to invest in Real Estate in different markets across the country in case one area is hit with a natural disaster or some major economic collapse, it doesn’t destroy my entire portfolio. Just things to keep in mind as you start working on your path to FI.