How much money is needed to be financially independent? – This is probably the first question which any serious F.I.R.E. aspirant would want an answer to. And any half-serious F.I.R.E aspirant would probably have some answer at back of their mind.
However, like many other questions, the golden words may be – IT DEPENDS.
It depends primarily upon your lifestyle needs and financial goals.
Someone with an extremely frugal lifestyle and no major financial goals would need less. For someone with an extremely lavish & flashy lifestyle, nothing would suffice.
(Disclaimer – Anyone looking for a definitive answer in this write up will be disappointed. What I am trying to come up with is a process to arrive at that number. Beyond that, it is you who is the best judge)
Let’s take a step back and try to summarize the key considerations for arriving at a number for the money needed to be financially independent in India:
- The amount should be able to take care of all your expenses for your entire remaining life. This “entire remaining life” can be 5 years or 50, or even more. You can probably live well beyond 100. You can’t predict it, but you can always plan for it.
- The amount needs to consider inflation & keep pace with it. In some years, inflation can be really nasty, and you may not be able to do much about it.
- You need to be sufficiently insured, especially on health front. As you age, your healthcare expenses are likely to shoot up.
- You need to account for major life events & it may be expensive. Examples – children’s education. children’s wedding, buying a house, major “explore the world” vacation, etc.
- You should be able to save some money from your post-financial independence income. This number should be greater than or equal to the inflation.
(An occasional black swan event may make most of the above points irrelevant, but will ignore that as of now as I hope that it may not happen in most of the cases!)
Here are few more assumptions I have used for arriving at a number for the money needed to be financially independent in India:
- Interest rates/ rate of returns do not go below a certain level thus providing a certain stability in income.
- You are not financially dependent upon your children or anyone to provide for you, especially as you enter, say 70s or 80s or beyond.
- You are not touching your initial corpus (Which is the raw material for providing passive income). Since you cannot predict your lifespan, pulling money out of this capital may be slightly risky if you live for too long.
- You are not spending your entire income even while living off passive income. Saving money from your passive income & investing it can help you beat inflation. A savings rate of 5-10% can typically work quite well and also provide some cushion against unexpected financial shocks.
- In terms of investments I have assumed debt (majorly fixed deposits), at slightly lower effective rates than currently prevailing interest rates in India. (it may be a better idea to err on conservative side while planning!) With a different investment mix, which may include equities, your returns can be higher. Investment mix may depend upon your risk profile & objective (capital protection/ capital growth)
- I am assuming that returns you get are in sync with the inflation. This assumption may fall flat if you fall prey to lifestyle inflation.
While a lot has been said about the safe withdrawal rate, it comes into play only when you have a number in your mind – number that indicates how much money you’ll need to be financially independent. However, I’ll ignore that as of now, since here I am assuming that you will save money from your post-F.I.R.E income and this will be equivalent to inflation (which is slightly different approach from using safe withdrawal rate, & may account for variability in rate of inflation).
Let us consider the following scenarios:
Current monthly expenses of Rs. 25,000 per month, no major life events planned.
(Quite an unlikely scenario in current times, but still …)
To generate a passive income of Rs.25,000 per month may require an investment of Rs. 5,000,000 (Rs. 50 Lac) @ 6% per annum. With this passive income you may not need to pay any taxes. But this amount is unlikely to suffice for anyone, or at least it may not give you enough comfort to live off passive income only.
If your returns are like 10 % per annum, you may need Rs. 30 lac corpus to begin with, at 12%, this number becomes Rs. 25 Lac.
So, with higher rate of returns, you may be able to manage with less money also, but with a relatively less corpus to begin with, one may want to be risk averse and prefer capital protection over capital growth.
Current monthly expenses of Rs. 100,000. Need to plan for education an wedding of 2 kids (Rs. 50 Lac for each for each event, at current expense) and buy a house worth Rs. 1 Crore.
In this case you need Rs. 3 Crore (30 Million) for “life events” and another Rs. 2 Crore (20 Million) providing you Rs. 100,000 per month at 6% per annum (assumed net effective returns). That makes it – If you have Rs. 5 Crore now, you can be financially independent.
However, if your portfolio can give a return like 10 percent per annum (with a healthy mix of debt and high-performing equity) you may need R.s 1.2 Crore (12 Million) to manage your day to day expenses via passive income. And maybe, a bit less can be budgeted for your planned major expenses too, if your portfolio grows at 10 percent, and the corresponding expenses (education, wedding etc.) grow at a slower rate.
With 12 percent per annum returns, the cropus needed for day to day expenses become Rs. 1 Crore (10 Million)
Current monthly expenses of Rs. 100,000. You have your primary residence in place (and you don’t have any outstanding loan) and have 1 kid on whom you want to invest Rs. 1 Crore (at current cost) for education (probably abroad)
In that case you may need Rs. 2 Crore (20 Million) providing Rs. 100,000 per month @ 6% (Rs. 1.2 Crore at 10% and Rs. 1 Crore at 12%).
Add another 1 Crore for child’s education, that figure becomes like Rs. 3 Crore (corresponding to 6 percent rate of return). This number can be a bit lower, if the rate of return is higher.
You don’t have any major life events as of now but you think that if you get Rs. 500,000 (5 Lac) as of now, you can cover all your daily expenses and other life events also.
In that case Rs. 10 Crore (100 Million) may help you achieve financial independence, assuming 6 percent rate of returns. If the returns are higher, the money required will be obviously lower.
(Above numbers are ballpark figures and doesn’t consider any tax implications. Typically with higher corpus tax implication may be high, but at the same time you can have luxury of parking money in instruments with better returns, but with a lock-in period – e.g. PPF)
(You may also be interested in reading about assumptions in planning your investments and finances)
The above numbers indicate achieving total financial independence – a situation where you need not work for money for rest of your life. If that goal seems far, you may also want to target partial financial independence – where your investments can take care of your very basic expenses, but you need to top it up with more income).
Calculating the magic number for money needed to be financially independent, is just the beginning. There is usually a long journey ahead.
This journey is not just financial, but also behavioral.