The rhetoric around the notion of FIRE (financial independence, retire early) has definitely increased as of the last few years.
The question is: How much money do you need to never have to work again?
I’ve read a number of blog posts within the financial blogging circles, and the thinking is that the magic number to never have to work again is the seemingly elusive goal of $1 million.
The reality is, once you do the math on the level of income that $1 million can provide, you realize that you need much more than $1 million to live somewhat comfortably.
Since each person’s lifestyle varies so significantly, the amount of money is also going to vary, but I’ve put together a formula to help you determine your “sleep well at night,” or what I will refer to throughout this blog post as your SWAN number. It’s a super simple formula, and I’ve created three SWAN categories of comfort, so read on.
The 4% Rule Is Not a SWAN Number. So What’s a Good SWAN Number?
Many financial planners will use the 4% withdrawal number as the amount you can comfortably withdraw from your overall portfolio, assuming an average 8% return on your investments.
Unfortunately, 8% requires some level of risk, with at least 40% of the portfolio invested in the stock market. Even then, 4% of $1 million is only $40,000 a year, which is barely enough to live in most of the larger cities. What you’ll find as we move along in this post is that $1 million isn’t even close to enough to not have to worry about money.
We have two problems, though, which we need to tackle:
- $40,000 isn’t enough to live on
- 8% return is too risky
Let’s address both of the above problems:
How Much Is Enough to Live on Per Year?
You likely already have the answer to the above question.
While it’s true that once you retire you spend less on work lunches and gas to drive to and from work, it’s also the case that most people spend more on vacations and other leisure activities when they’re not working. So unless you cut back significantly, the amount of money that you need is likely equivalent to what you’re currently spending today. It’s quite possible that you can live off $40,000 a year, but given the cost of living in most cities, it likely isn’t enough. Either way, I’ve built my formula so that you can decide how much you need.
Keep in mind, it’s also possible that you can supplement your income either through a work or government pension or by earning a side income.
For the sake of this blog post, I’m going to use $100,000 a year as the live-comfortably number.
The next problem is the 4% rule doesn’t work that well if you don’t want to worry about money, or to ever have to work again.
If you have 40% of your portfolio in the stock market, and there’s a 40% drawdown in the stock market, which happens at least once every decade, you’re not sleeping very well at night during those turbulent times. If you have $400,000 in the markets, and your current portfolio has to last you for the rest of your life, watching 20% (in this case $200,000) of your wealth disappear overnight is not very SWAN-like, knowing that if the markets don’t recover, you’re likely going to have to go back to work.
For real SWAN-like thinking, you need to have a portfolio large enough to kick off a stream of dividend income so that you don’t have to touch the capital. And then, considering inflation, your portfolio needs to grow by at least the nominal level of inflation per year, because $100,000 in today’s income isn’t the same as $100,000 in tomorrow’s income.
Here’s your 10-year income requirement, considering a $100,000 income requirement with a 1.5% inflation rate:
It is possible to supplement your income by doing some casual work and earning a yearly income. That’s completely fine, and many people still do earn something even when they retire. But knowing that you MUST earn some dollars, isn’t a real SWAN-like number, because the question now is what happens if you don’t earn that level of income. You’re still worrying about money.
The SWAN number I’m speaking about assumes you have enough wealth that you don’t ever have to work again, that your assumed rate of return is low enough that you don’t have to worry about the markets, and that your income keeps up with inflation. So, in year 10, looking at the above chart, your portfolio needs to produce $114,339 in after-tax yearly income.
In order to not really worry about the markets, you shouldn’t have more than 20% of your wealth invested in the stock market, with the 80% balance in safe fixed-income bonds, T-bills, and other guaranteed income certificates earning a somewhat nominal amount. You also should have enough so that you don’t have to spend the capital.
There isn’t anything wrong with spending a portion of your capital, especially in the later retirement years. But for the purposes of my formula, I’m going to assume that the SWAN number doesn’t require a spend of the initial capital. Watching your level of wealth slowly decline can be somewhat unsettling. And again, my initial question for this post is: How much wealth do you need to not worry about money?
There are many variables here that need to be considered:
- Number of years the capital needs to last
- Amount of other non-investment income that is supplemented every year from side work and pensions
- The inflation rate
- The yearly rate of return on your portfolio that you’re comfortable taking, with the less stock market risk the better
- The amount of original capital you’re fine to dip into every year
- Your current tax rate
What’s the Magic SWAN “Never Have to Work Again” Wealth Number?
Of course, there are several assumptions. My estimate is only an approximation, which will vary from person to person. But the SWAN never-have-to-worry-about-money-again formulas are as follows:
- SWAN Wealth Number Level 1 = Current Yearly Spend × 28 (quite comfortable)
- SWAN Wealth Number Level 2 = Current Yearly Spend × 32 (very comfortable)
- SWAN Wealth Number Level 3 = Current Yearly Spend × 36 (completely comfortable)
You will notice that with SWAN wealth number level 1 and 2, you’re going to eat into the initial capital. It’s only with SWAN level 3 that you’re not eating into the capital until year 6, or likely much later than year 6 because you’re compounding the difference between your income and spend for a number of years.
So there you go. Your number to sleep well at night, never have to worry about money, is somewhere in the range of 28 to 36 times your yearly spend, and of course, the higher the multiple, the more secure you’ll feel, and the less stock market risk you’ll have to take. Anything above 40 and you’re feeling very comfortable.
And the question of whether $1 million is enough to retire on? If your yearly spend is $30,000, then, yes, $1 million is probably fine. If your yearly spend is more than $30,000, then you’re probably going to be tight, you might have to take more stock market risk, and in turn, not sleep quite as well at night!
If we come back to the initial 4% rule, I’m suggesting that if you want a real SWAN number, you should be fine to spend somewhere between 2.5% to 3% of your capital on a yearly basis and still sleep well at night.
Happy dreaming, and good luck saving.
If you liked this post, you might also like: What Net Worth Makes You Rich? The Average Net Worth to Make it Into the Top 1% and How to Get There
And this one: 11 Wealth Building Secrets You Need To Know
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Also, I published a book during the summer of 2018, “The Kickass Entrepreneur’s Guide to Investing, Three Simple Steps to Create Massive Wealth with Your Business’s Profits.” It was number 1 on Amazon in both the business and non-fiction sections. You can get a free copy here.