One of the best parts about starting this blog is forcing myself to crystallize ideas and enumerate goals. They say the best way to learn a subject is to teach it, and in a way this blog is forcing myself to learn how to be financially literate by attempting to explain it in the form of a blog post. Good stuff.
Over the past 6 months I have written articles about all sorts of random things; from investing in commodities to grooming tips. The focus of course is personal finance and the pursuit of financial freedom, but until now I have not explained to the reader (or myself) exactly how I plan to get there and what the dollar amount goal is.
I think spending time to flesh this out is especially important after paying off my student loans. That was the real goal for the past few years of my professional life, and now with the loans paid off my mind has been searching for the next step.
I have known that next step is to acquire more assets and reach financial freedom. To be able to walk away from working a 9-5 job as a small town lawyer – if that is what I really want to do once I get to independence. To have the freedom and autonomy to step away from the chaos and to pursue whatever it is I was meant to actually pursue. And who knows, maybe I was actually meant to pursue being a small town lawyer.
Let me caveat things by saying that I don’t hate my job. I work for myself, which is something many people apparently want to do. I also make pretty good money. At the end of the day I like the idea of more options. Right now as a lawyer I am primarily in the time for money business. I can leverage employees a little bit, but by and large my ass needs to be billing hours to make a paycheck. It’s not particular efficient. And when you are in business for yourself it seems like you are always working. Add in the fact that the work is typically fast moving and stressful, and I definitely want to create some options for myself.
While I have discussed some of my investing philosophies tangentially I want to spell out my entire approach to the goal of reaching financial independence – and then get there. I want to get as granular as I can about this. I expect this post will serve as reference for myself, and will be updated and evolve as my approach evolves. I am at the beginning of the journey and don’t pretend to be a guru on the mountain top. I’m the joker down at base camp. My debts have largely been paid and I’m well provisioned for the time being, but I got a steep climb ahead of me.
The Goal: $1.5M in Liquid Assets and a Paid Off House
I don’t think $1.5M (in today’s dollars) is my minimum amount to be Financially Independent, but it sounds like a good safe number. Assuming a conservative 3% withdrawal rate that is $45K a year.
Based on my current levels of spending this number is more than enough to live off of, especially if that figure doesn’t include a mortgage payment. Luckily here in Florida home prices are still somewhat reasonable compared to other parts of the county. They have risen substantially in the wake of the recession, but it’s entirely possible to get into a decent single family home for under $250,000. You could go much lower.
I could live in my rental condo, which currently has a small mortgage and an annual burn rate of approximately $4,500 if you just look at the condo fees, taxes, and insurance. That number does not include maintenance. To be conservative we could budget 5% a year in maintenance based on a fair market value of $75,000 would be another $3k or so, putting me well below $10k a year for housing. Most will argue that is pretty ridiculous, but that is the potential benefit of buying a 1 BR condo vs. a $300,000 McMansion like many of my peers are now buying.
Of course renting could also be an option, but since I rent my condo for $12k a year, it probably makes more sense to own the unit outright than rent it if the plan is to stay where I am. Maybe that will change in the future depending on the market and my housing needs. Renting vs. buying would certainly be a big consideration for most people planning for Financial Independence. For now I’m going to plan on owning a place. I want $1.5M in the bank and a mortgage free domicile of some sort.
Looking at my $45k budget a little further, I wouldn’t have some of the expenses I currently have as an “early retiree”. There would be no expensive suits, Allen Edmond’s shoes, not as much need for a reliable car (so less gas, maintenance, insurance). I wouldn’t need to pay for disability insurance as I would be self insured. I’d probably qualify for some sort of subsidized health insurance (although I am already on a high deductible plan, and as a health 30 year old man my premiums are not much at all). I’m already living pretty cheaply, but there is always fat to trim when you can exchange time for money and don’t have to show up to the office with a fresh shave and $75 shirt.
Of course if you are really going to do this you have to see what your historical spending is. Otherwise pulling a retirement budget out of your ass is going to be of little value, and at worst can be reckless. I use both Mint and Personal Capital to track spending. Looking at Personal Capital it states that I have spent $32k for 2016 (as of 07/02/2016). Of that $32K, approximately $20,000 has gone to student loans. However, this doesn’t tell the entire story as my law firm pays for certain things (my cell phone, computer, some meals, etc.). Also, some of the expenses listed in Personal Capital are expenses for my income producing website and rental condo. Using rough math I would peg my current actual annual spending around $20k, which includes rent and does not include paying my educational debt.
So this is something I’ll need to refine as I get closer to a target date. For the time being I’m fine with my $1.5M target and annual budget of $45k.
The Plan To Get There
At the end of the day the plan is pretty simple. Save the majority of my income, and divert it to a diversified portfolio of stocks and bonds. My strategy is to dollar cost average my way into the market by automating the purchase of index funds on a weekly basis, to maximize the use of tax advantaged accounts, to use low fee index funds and manage my own money to preserve as much of my capital as possible from expenses, and to let compounding do its thing.
The question is, how long will I need to let compounding do its thing to reach $1.5M?
One of my goals for 2016 is to save half my income. The way I plan on doing that is to first make a pretty decent income. Lets face it, for most people there are fixed costs in life – housing, food, transportation, and utilities. These can get minimized, but most people are going to have to spend some money to live – lets say $25k a year. That’s probably what my budget is. If you make $60k there is more meat on the bone (or fat to trim) than if you make $30k a year.
I then track my expenses closely by using both Mint and Personal Capital (of course any sort of budgeting software, or just a spreadsheet, will work), and attempt to minimize those expenses. From housing, to insurance, to food, my cell phone bill, to the kind of razors I buy, I do the best I can to cut away the fat while still living decently. Having been a professional student for the first 26 years of my life, I’m used to living more or less like a bum. As long as I had a bed to sleep in, a laptop, and cold beer in the fridge I was cool. My goal is to continue to live like a student for as long as I can get away with it.
In some instances there are easy wins, like cutting cable, switching from a $100/month cell phone plan to a $30/month one, not eating out so much, not going to bars often (or buying much alcohol in general), having cheap hobbies, riding a bicycle, fixing things yourself, buying used vs. immediately going to the store, etc. And then there are big wins like downsizing your house, moving closer to work, taking on a roommate, not buying new cars every 3 years, not buying cars at all, delaying having children, not having expensive pets, not taking on credit card debt, using airline miles to travel, exercising regularly, etc.
My biggest expense by far for the past few years has been student loans. $2-3k in student loans each month. God I am happy to have those things out of my life.
To get back to my question, assuming I make 100k a year, save 50k on top of my current “nest egg” of $75,000 and assume an inflation-adjusted historical return of 7% I should reach my 1.5M number in 15 years.
15 years doesn’t sound too bad, but I’d like to try and accelerate the process and also develop some other income producing assets. Namely real estate and income producing websites. That way I can “really” have financial independence. I think for me I will want to continue to have money come in. Cash flow makes the grass grow, and the thought of just living off of stocks and bonds, while totally doable, doesn’t 100% appeal to me at this point. I want to have a couple sources of income and let my investments grow to provide a wider margin of error.
Real estate has proven itself to an attractive investment for a number of reasons. Those reasons include:
- Cash flow
- Tax advantages (depreciation, write offs, no self-employment tax on the income)
- Hedge against inflation
I have witnessed the power of real estate by observing my own parents, representing wealthy landlords, and reading books on the subject. Bought right you are supposed to make money on day one with real estate and can achieve a superior return with a disciplined approach. I can see the power of real estate with my one little condo that I am renting.
The only problem is, the market is a seller’s market now, and unless I work hard to hustle up deals then I won’t get an adequate return by purchasing properties at retail prices off the MLS. That’s OK, because I don’t really have any money to spend right now anyways. In fact, I just spent most of my liquid capital paying down my loans.
I have plenty of excuses and only one property right now, but I’ll close this section out by saying real estate is on my radar and I’m building up a small war chest with the goal of scooping up some more properties when the time is right.
Income Producing Websites
Not many personal finance bloggers will blog about using income producing websites to reach financial independence. But the dirty little secret is that the successful bloggers make good money with their sites. That’s OK. I don’t have a problem with people making money, and I think successful bloggers can choose to be compensated for their work like anyone else. But I also think this is an interesting approach that can help you pursue financial independence.
For example, my main money making affiliate site nets about $1,500 a month. That is 18k a year. If you ascribe to the 4% rule, you would need to build a portfolio of approximately $500,000 to generate $18k a year in investment income. That’s pretty powerful.
Of course there are risks to building websites, and you have to pay ordinary income tax on the earnings (and self employment tax at that typically), but if you know what you are doing and have diversified your income, I think income producing websites are a hell of a lot better than working a part time job, owning a franchise, etc. Certainly the semi passive income from a website is better than exchanging time for money. As a lawyer I can tell you that gets old quick, as I only have so much time (and energy) to give.
Plus, there is something undeniably powerful about being involved with the internet. Owning a couple websites have changed my life. Not only has it provided an income stream that will get me to financial independence faster, I have learned a ton of skills that I have applied to all sorts of things. It has completely changed me as a person. It has also allowed me to form relationships with people that I wouldn’t have otherwise met.
Being involved with the internet also keeps you current. If you don’t keep up with technology, you will grow obsolete. It’s sad but true and I have already observed some of this in my very short professional career. As an employer I am looking for people that are technologically savvy. I can teach someone how to do the specifics of a job, but I can’t teach them how to use a computer.
Keeping a finger on the pulse of the internet by forcing yourself to build and market a website is a great way to develop these skills.
I think MMM did a great job articulating this point through his post. He is totally right. If you invest the time in learning how to use a computer, and I mean to really use it to create something cool, not just fuck around on Facebook and pretend to work your 9-5, then rewards can be millions and millions of dollars. The computer and the internet is literally the difference from me working for someone else, and making low 6 figures after 3 years of starting my law firm.
And guess what, there are people that use computers a hell of a lot better than me. We all have the potential to double, triple, or 10x our output. It’s just a matter of thinking critically and taking action.
Now that I have made a case for income producing websites, I’ll talk a little more about how exactly they fit into my plan. I plan on continuing to grow out my existing main site (by writing articles and hiring writers to write articles – I am already doing this).
I don’t see myself building another income producing site from scratch (unless I was extremely passionate about the subject matter), but I may purchase other websites. Like any asset class there is a market for income producing websites, and the price is based on the relative risk and the earnings.
Fair market value for a quality website seems to be 25-30x it’s monthly net earnings. So a website like mine making $1,500 a month would sell for somewhere in the $35-45k range. A $100k website selling at a 30x multiple should spit about about $3,300 a month. That is basically 3% of a million dollar portfolio, and could conceivably be an income replacer for some people. It’s pretty cool that you can theoretically buy an income stream like that for $100k.
So perhaps purchasing an additional website or 2 is in my future. While I don’t like the idea of subsisting off a website without any kind of nest egg, this could be a great tool after reaching FI to allow my portfolio to compound without having to tap the principal, or potentially allow me to “semi retire” from practicing law at some point.
In closing, the FI and internet marketing / blogging crowds have a lot in common, and I think a lot can be learned from these 2 communities. The internet will definitely play a role in my plans for financial independence.
If I follow this plan Financial Independence is inevitable. Even if I skip the real estate investing and web development stuff, Financial Independence is inevitable if you save a significant portion of your earnings. At the end of the day, this is just a simple formula. It’s how much you save (invest) vs how much you spend. If you save substantially more than you spend, and do that long enough, eventually the income and growth from your portfolio will replace your earned income. It’s that simple.
Then again, losing weight is also simple. It’s calories in vs calories out. Yet so many people struggle with their weight (myself included). The key is consistency. The good news is we can automate a lot of our financial lives. We can make saving painless by having the money automatically withdrawn from our accounts. I only wish I could automate my ass into the gym every morning.
I am at the beginning of my journey for financial independence. If I approach this from purely a stock portfolio perspective, I expect to get there in about 10 years. At this point I think I’ll be able to save more than 50% of my income if I continue to make as much money as I am making, and don’t fall victim to the traps of consumerism and luxury. I feel strongly about reaching FI today, but I suppose anything can happen. The world owes you nothing.