By Simon J. Lau, CFA
Updated June 2024
Financial model: Please feel free to make a copy of this model by clicking on the hyperlink and selecting “File” => “Make a Copy.” You can then customize it to suit your specific needs.
When Can I Retire?
As with most things in life, love, and finance, it depends. Beyond the numbers, the three most crucial factors include (1) your required spending (both imagined and real), (2) your health, and (3) your risk appetite. If your required spending is modest and your health is excellent, there’s a good chance you could retire early. The FIRE Movement, for example, has provided ample evidence of 30-somethings retiring from the corporate grind into a life of leisure.
- Required Spending: The amount of money you need for living expenses significantly affects your retirement timeline. Lower spending needs make early retirement more feasible.
- Health: Good health provides dual benefits. First, it keeps medical costs low. With rising medical expenses, this is a crucial consideration. Second, excellent health provides the option to return to work if needed. Being healthy allows you to re-enter the workforce after a false start at retirement.
- Risk Appetite: Your comfort level with financial risks ties all these factors together. Despite advancements in finance, medicine, and technology, we cannot accurately forecast the future. We can make assumptions in our models, but they are essentially educated guesses. The more comfortable you are with these risks, the more likely you can retire early.
Case Study
Drawing from a previous example in another article, What Does It Take to Buy a Home in San Francisco?, we follow Chris and Jennifer, who were recently engaged and purchased a unit at the Malt House. Chris is a 31-year-old Finance Manager at Salesforce, with a total compensation of $149K last fiscal year. Jennifer is a 28-year-old Product Marketing Associate at Square, with a total compensation of $121K last fiscal year. Their combined income is $270K, they have no car payments, and they no longer have student loans. Now that they’ve settled into their new home, they’ve decided to plan their financial future. Jennifer, as a responsible finance professional, has volunteered to consolidate their finances, and the highlights are described below.
Summary Tab
- Nominal Value (After Taxes): Calculates the nominal value after taxes, not adjusted for inflation.
- Present Value (After Taxes): Calculates the present value of the nominal amount, adjusted for inflation. For example, at age 45, Jennifer and Chris would have $4M in future dollars (after taxes), equal to $2.4M in today’s dollars (after taxes). The nominal value grows faster than the present value due to the discount rate (inflation).
- PV Retirement CF/Month (After Taxes): This is the present value of retirement cash flow per month, after taxes. For example, if Jennifer and Chris retire at age 45, they could draw $8.9K/month in present value cash flow (after taxes). Assumptions include selling their home and depositing proceeds into a trading account, rebalancing all accounts to meet the long-term retirement growth rate, and having enough assets outside retirement accounts to draw from until they can access retirement accounts.
Additional Considerations
- Average High-Grade Bond Yield: Focus on high-grade fixed income securities for retirement portfolios, as recommended by Ben Graham in The Intelligent Investor. Avoid high-yield (junk) bonds.
- Home Sale Tax Exclusion: Amount of capital gain that is tax-free for owner-occupied units.
- Real Estate: For most Americans, homeownership is a primary source of net wealth. In large coastal cities, real estate can be a significant growth driver. In the San Francisco Bay Area, home prices increased by 4.7%+ annually from February 1989 to February 2019. With a 20% down mortgage, homeowners can expect ~25% YoY annual return on the down payment over a long time horizon, excluding taxes, transaction costs, and interest payments.
- Pre-Tax (401(k)) and Post-Tax (Roth IRA) Accounts: Important for retirement, but likely incomplete solutions on their own. Max out contributions and have supplemental accounts like personal trading accounts for early retirement goals. Adjust strategies based on expected tax rate changes in retirement.
- Personal Trading Account: A supplemental retirement account without tax benefits but no age requirements for withdrawal, crucial for early retirees.
- Equity/Fixed Income Distribution: Distribute investments across equities and fixed income securities, with a higher proportion of fixed income as one ages. Cap fixed income investments based on long-term retirement growth rate assumptions.
- Cash Reserve: Maintain a rainy day fund equal to 3 to 12 months of expenses. A light cash reserve can be invested, but be prepared for unexpected cash requirements that may necessitate selling shares in a down market or paying taxes on capital gains.
In conclusion, the earlier you intend to retire, the more challenging it becomes due to fewer years to accrue wealth and more years to fund. However, longer working years provide fewer years to enjoy life. Novel ways to live and work expand upon traditional philosophies. For example, some Americans change careers after 50, taking a break before transitioning to a slower-paced job.
Disclaimer: The information provided is for informational purposes only and does not constitute financial, legal, medical, or professional advice. Users should consult qualified professionals for advice tailored to their specific needs. The author and publisher are not responsible for any errors, omissions, or damages arising from the use of this information. By using this content, you agree to hold the author and publisher harmless from any claims or liabilities.
