Saturday, 21 January 2017

Do you have a plan for early retirement?

Achieving financial independence (FI) is the dream of many working adults. We dream of lying on the bahamas beach sipping watermelon juice. We plan to devote our time to charitable acts. We want to chase our passion, to do the things we love, instead of the things we need to. Basically, we want to stop exchanging our life (time, effort and energy) to live (our desired lifestyle).

Regardless of what is the kind of life you want to lead upon FI, one thing is for sure: we need to have a personal plan for achieving financial independence.

A plan for achieving FI is like a blueprint for building a house, a recipe for cooking a dish, and a strategy for completing a marathon.
The plan has to be personal, custom made and prepared by yourself. There is no better person than yourself who can craft your ideal financial freedom blueprint. After all, everyone has different aspiration, lifestyle, beliefs, capabilities, values and outlook in life. The point is, everyone is unique, hence, a perfect plan for someone will most probably not be suitable for another person.

Most of us has a rough plan

Yes, everyone who is reading this post should have in a way thought through their own retirement plan (otherwise you wouldn't have spent the last 30 seconds reading my introduction). It may not be very structured, but generally we all should have a general 'plan' in our financial journey.

For example, most of us knows
  • the age we want to retire
  • the expected big expenses in each phase of life
  • the amount of expenses required to incur each year
But, it is not so straightforward to know how much is enough. It will be disastrous to quit your job and lead a 'retirement' life, only to realize later that you don't have enough for old age.

The strategy in Max's financial journey

In general, the financial journey for each person can be classified into a few phases, bounded by key milestones. For Max, there are 4 main phases, each categorized by the different income generation and/or financial needs.

Phase 1: Wealth accumulation (current to FI)

Phase 1 is characterize by a rapidly increasing cash equivalent and  CPF savings. This is the period when Max focus on wealth accumulation from employment income and investments. The CPF is another key area Max will actively manage to optimize the CPF returns at age 55.

The objective here is to amass a sum of cash equivalent that is sufficient to support expenses till old age. Similarly, the CPF account should be built up sufficiently to help support retirement expenses in the form of CPF LIFE payout.

Phase 2: Sustainable lifestyle (FI to CPF withdrawal age)

The achieving of FI signifies the commencement of phase 2, the post working life. Without employment income, the main income will come from investments returns, currently set as 5% per year. The focus here is to manage expenses in a sustainable manner without compromising lifestyle quality. If someone has to scrimp and live like a beggar during this stage, he might as well get out and work for another few years.

Max does not foresee himself relying solely on investment income to sustain his expenses during this period. However, the plan currently is designed based on zero employment income, so any additional income during this phase will be an added bonus.

Phase 3: Self management (CPF withdrawal age to CPF LIFE payout age)

The CPF savings above minimum sum can also be withdrawn as cash at this stage. While the plan is to make this withdrawal at age 55, Max's plan may change according to how confident he is with his investment returns. 

At this point, the sole source of income will be from investment returns. So it is important for Max to be disciplined and careful, both in terms of managing his portfolio and expenses.

Phase 4: Golden age (CPF LIFE payout age to end of financial journey)

CPF Life payout will commence at age 65 to supplement the investment income, the latter is likely to be much lower as we grow older. Max definitely does not have the confidence that he can maintain the same ROI as he age. Again, the plan is built based on the worse case scenario, so any additional  returns will be a bonus.

The Financial Independence Model

The two graphs above are generated by the Financial Independence Model (FIM) developed by Max. By keying in basic information on income, expenses and investment, the FIM is able to determine the age of achieving FI. From the graphs, it is not difficult to see the 4 phases in Max's financial journey, and FI will be achieved by age 40!

Max will be writing more on the FIM after it is fully tested. If you would like to test out the beta FIM to generate the same graphs for yourself, just link up with me.

What is your plan?

Many of us may have more than 4 different phases in their financial journey. For example, for couples who have kids, they will go through a phase with higher expenses to raise the children. Another example will be for people who is able to generate side income, such as rental or online business.

Regardless of how many phases there are, we want to ensure that the wealth built up is able to sustain our expenses in the future. Only then we can truly be eligible to say that we have a plan for early retirement.


Upcoming posts

1. More about myself - posted on 6 Jan 2017
2. Do you have a plan for early retirement - posted on 21 Jan 2017
3. My financial philosophy
4. Review of my 2016 stock investing performance
5. Why do I top up my CPF SA using cash
6. Big spending - Invisalign

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