This is a question of maths, pure and simple, and works no matter which country you’re in.1
How much do I need to retire? I need to have an amount of money that won’t fall below one year’s worth of expenses before I die.
I’m 30, have £20k of annual expenses, with 55 years left to live according to my life expectancy.
Thus, you might assume that if I had 55x my £20k expenses (about £1.1m), that I could retire immediately, right?
If I assumed that inflation would be 2% for the next 55 years, then my expenditure could actually rise to £58,269, which would eat through £1.1m in 38 years.
So how do you solve the problem of the money running out too early?
It’s simple really: invest it.
Investing your money into the stock market, and in particular into index funds that spread your money across a large number of companies, that will provide you with a return that you can retire from.
But how much will you need to invest, exactly?
Recommendations for the amount you need by the time you retire are usually an absolute minimum of 25x your annual expenses, and up to 40x.
The Trinity Study found that withdrawing 3-4% of an investment portfolio each year should allow it to last for more than 30 years, while differences in investing returns in the UK suggests that we British should aim for 2.5%.
Divide your annual expenditure by those percentages and you should get the same figure as if you multiplied it by 25-40.
So, quick maths tells us that for every £1k of annual expenses, you’ll need £25k-£40k in your investment portfolio.
So for myself, with £20k of annual expenses I will need £500k-£800k to match that range. As a couple, myself and my partner have around £35,000 of annual expenses, so we will need a retirement goal of £875k-£1.4m in our portfolios before we can reliably retire.
If you had £100,000 of annual expenses, you better get to work on cutting those down because you’ll need at least £2.5m before you can start to retire.
How long do I need to invest for?
Let’s say you are me – 30 years old, £20k annual expenses, requiring £800k for retirement, with no current savings or investments, investing £1,000/month.
Using this handy Early Retirement Calculator I can quickly plot out how long I will need to do this for, until the return from my investments can cover my expenses.
If 30 years until retirement is too much for you, try doubling your investments to £2,000/month and you should reduce the time until retirement to almost 20 years from now. Increase it to £3,000/month and you’ll take it down to about 15 years.
Keep in mind, however, that all of these figures are standalone from your pension(s), and taking a pension further down the line may decrease the amount you need invested for a comfortable retirement.
What should I invest in?
I have a few strategies, but mostly focus on Index Funds – these are investment funds that put your money into a large number of stocks all at once.
Using Freetrade (use my link and you’ll get a free share worth up to £200) I’m putting my money into a selection of consistent good performers that spread my money across reliable and high-earning companies.
The Vanguard FTSE All-World (VWRL) fund spreads my investment across 3,000 large and medium sized companies around the world. In the past 8 years, it has had double digit percentage growth for 4 years, single digit percentage growth for 2 years and has declined for 2 years. In that time it has increased by 121%, for an average of 15% annual growth.
Keeping in mind that all of my calculations are on a 5% ROI, this fund may actually outperform that over the long term.
As a nice little bonus, funds like VWRL offer a dividend, which gives you a small annual income based on the size of your investment. VWRL offers 1.38%, so I’ll get £1.38 for every £100 invested each year.
How do I invest?
Retirement saving and investing is actually quite simple.
Investing platforms can take some hefty fees, so for the past year I’ve been using Freetrade, which offers commission-free trading and an ISA for a flat fee of £3/month regardless of the size of your investment.
If you join, you’ll get a free share worth up to £200, so I highly recommend you check it out.
I definitely recommend that you invest through an ISA, which gives means you can make tax-free withdrawals of any profit you make.
Don’t forget your workplace pension scheme
When looking at your retirement plan, you should also consider any pension savings you made through working.
You’ll be able to take this at a fixed age – for me that’s going to be age 57, and all of your pension contributions come with tax relief – basic rate tax payers get £100 for every £80 they put in.
If I can get a guaranteed income to cover all expenses from my workplace pension fund at age 57 and actually retired at age 40, then my pre-pension income from investments only needs to last for 17 years.
In this case, I may not need to amass 40x my expenses, as 25x should still last more than long enough.
While you can take a 25% lump sum tax free, this does decrease your pension pot signficantly and impacts the amount you can withdraw each year, so do take that into account.
Don’t forget your state pension
My state pension age is 68, meaning that I can get an annual ‘wage’ from the government at that age.
The full rate will be about £180 per week, but this is pro-rata based on the number of years you have worked and paid national insurance contributions.
The full rate requires 35 years of contributions, so let’s say I only work for 20 years:
£180/35 = £5.14*20 = £102.85/week = £5,348/year.
Scenario: What if I retired at age 40 with £20k expenses?
I would have contributed 18 years worth of national insurance contributions.
From age 57 I can take my workplace pension, which at age 30 is worth only £17,000.
Estimates show that I could get about £6,000/year from this, but considering I will retire early and these estimates are based on not doing that, I will factor in £3,000 (but naturally, this is not simple to estimate).
From age 68 the government would pay me £4,811/year as a state pension, giving me £7,811 with both pension pots and leaving me with just £12,189 left to find.
Thus from my investments I need £20k from age 40, £17k from age 57 and £12.2k from age 68.
If we say that I would take 2.5% of my investments, then my investment portfolio would need to be:
£800,000 from my retirement age of 40, £680,000 from age 57, £488,000 from age 68.
To find your own numbers, look at the estimated income from your workplace pension, determine your state pension age and income and then deduct those from your annual expenses and divide those figures by 0.025 to see what your investments need to be at each age.
Retirement planning is a long process that starts with you determining how much you’ll need to cover all expenses, considering your pension pot values and investing as much as possible to reach your Financial Independence / Retire Early (or FI/RE) number to give you a good retirement income.
Once you plot all of that out, it’s just a matter of time before you reach your goals to allow you to retire early.
So, how much do you need to retire early? It’s time to work that out for yourself, but the general recommendation is 25-40x your expected annual expenses, or up to $/£40,000 for every $/£1,000 that you spend each year.
Let me know in the comments what your calculations are and share how long it’ll take.
As always, I am just a simple guy who likes maths and wants to share my knowledge on retiring early. I am not a financial adviser and none of this is financial advice.