You’d think 248 years after our country declared its independence that more of us would be able to do the same. But according to the latest numbers, about 160 million of us are still working for The Man.
OK, so it’s not King George, but it still sucks. Work, as we all know, is a four-letter word.
Most Read from MarketWatch
What would it mean for you or me to declare financial independence? I asked Morningstar guru Christine Benz, author of the new book “How to Retire: 20 Lessons for a Happy, Successful, and Wealthy Retirement.” The key challenge, she tells me, “is not a math problem.” (Or a money one.)
“Regarding financial independence, it strikes me that definitions are really important and also terribly personal,” Benz says. “For some people, financial independence may indeed mean stopping work, while for others, it might mean continuing to work but with the knowledge that, if the work wasn’t agreeable, they wouldn’t have to keep at it. For others, it might mean pursuing work that is more meaningful but less remunerative than the job that led to financial independence.”
She adds: “My main advice in this realm would be not to settle for someone else’s definition of independence; it takes some introspection so that you know what you’re going for.”
This is very July Fourth. But it’s not enough to be free to pursue happiness; I need to know what it is for me.
But let’s say you’ve worked that part out. At this point, there is a math question — actually, several connected ones. How much do you need to save to be financially independent? And if you’ve saved that money, how should you invest it?
Financial planner Bill Bengen famously addressed this issue back in the 1990s, and came up with the so-called 4% rule. He worked out that if you invested in a balanced portfolio of stocks and bonds, you should be OK to withdraw 4% of your portfolio in the first year and increase that amount each year in line with inflation. If you did that, based on history, your portfolio would probably last for a 35-year retirement.
Bengen’s model assumed you had 50% of your money in stocks and 50% in medium-term Treasury bonds.
Morningstar’s latest analysis reckons that to pursue the 4% rule and minimize the risks, at this point you’d probably only hold about 20% to 40% of your portfolio in stocks. Right now, stocks — especially U.S. stocks — look expensive by various measures, while bonds are much cheaper than they used to be.
But all of this is for a retiree of around 60 who expects to live no more than another 35 years.
If you really want income for life without any risk at all at a younger age, there’s at least one obvious solution: A lifetime immediate annuity. This is a contract with a life insurer that, in return for a lump-sum payment, will pay you a guaranteed amount every month until you die — whether you live for five years or 50.
You can buy them these days with an annual increase in the payments, to take account of any inflation.
If you buy an annuity with a 2% annual increase, to match the Federal Reserve’s annual inflation target, the numbers become pretty clear. Someone age 40 can lock in an annual payout rate of 3.9%, just under Bengen’s 4% rule. But this involves no risk, other than inflation averaging more than 2% a year. The payments will last until you die.
(The payout rates are 0.1 percentage point higher for men, to account for their shorter life expectancy, and 0.1 percentage point lower for women. I’ve used an average.)
If you’re 50, the payout rate rises to 4.4%. If you’re 60, it’s up to 5.3%. If you’re 65, it’s about 6.1%.
Why anyone would settle for a 4% rate is beyond me, unless they are determined to leave a legacy to heirs. Actually, even if you buy an annuity with a 3% annual increase, by the time you’re 60 you can get a payout rate of 4.7%.
The U.S. Census claims that the “median” family income is $75,000. But this is misleading, because it includes couples as well as singles. Break down the numbers and the median per person works out to $54,000.
That probably seems low to a lot of people. But that figure is nationwide, including all the places with low costs of living. Anyway, it is what it is. You can plug in any number you want.
Put all this together and we have some very simple numbers on financial independence. If you are 40, and you want to stop working, and you’d be happy with the median U.S. personal income of $54,000, and you are willing to buy a single premium lifetime annuity with a 2% annual cost-of-living increase to do it, you’d need $1.35 million today.
If you want more income than that, you’d need to take whatever figure you settle on and multiply it by about 26.
If you are 50, you’ll need $1.2 million, or about 23 times your target starting income. If you’re 60, you’d need $1 million, or about 19 times. If you’re 65, you’d need $900,000, or 17 times.
These numbers are based on annuities. They are, at least, a starting point. If you’re happy taking on more risk, you can invest some or all of the money in the stock market and hope for higher returns and more spending. The long-term average return from U.S. stocks has been more than 6% a year, plus inflation. But that average covers a wide variation: At some points — such as in the 1970s and the 2000s — stocks lost you money, after inflation, for a decade.
Most Read from MarketWatch
EMEA Tribune is not involved in this news article, it is taken from our partners and or from the News Agencies. Copyright and Credit go to the News Agencies, email news@emeatribune.com Follow our WhatsApp verified Channel
