Monday, August 27, 2018

Three Years Out: Are We on Track for FI?

Earlier this month, I turned thirty eight. We skipped all the birthday stuff this year, no cake or parties or singing, opting instead to have a quiet day with just the family, as Mrs. Done by Forty mercilessly beat me at Kingdom Builder and Viticulture.

Birthdays be damned: her victory would not be denied. I love this woman.

"But wait," some of you might be asking. "If you turned 38, aren't you just two years away from 40? What's up with that title?"

What's up is that I'm worried that I won't be financially independent by the start of my fortieth year, so I'm cheating and giving myself until the last day I'm still forty.

That's cool, right? 

Let's see what's cooking in The Mad Fientist's Laboratory, for the Done by Forty household's financial independence plan.

This is where we're trending, if we assume the typical 4% safe withdrawal rate:

4% SWR, Assuming 7.1% Annual Returns

Amazingly, the Mad Fientist's lab thinks we still would hit FI a couple months before my 40th birthday, under these assumptions. I still don't know how likely this is as it seems we are spending more than ever, at the expense of our savings rate. But I guess the market is doing the heavy lifting at this point.

But here's what I think is a more realistic projection: where we're trending if we use the 3.5% safe withdrawal rate that Big ERN has inspired us to use in early retirement.

3.5% SWR, Assuming 7.1% Annual Returns
Very conveniently, we would hit financial independence in the last month that I'm still forty years old.

Success?

I really don't know what to make of these two projections, both of which are way more optimistic about us hitting the big honking goal than I am. Just consider the fact that our annual spending over the past twelve months has ballooned north of $50,000! That's a huge jump for us, and one that ought to delay achieving financial independence quite a bit, right?

I want to be kind to ourselves over this additional spending, because we've had some unusual expenses in the past two years: hospital and doctor bills related to Baby AF, new house expenses, furniture, stuff like that.

But if the main driver of our higher spending is just the mortgage, then maybe $50k is more or less what we should project going forward.

Speaking of that mortgage, the rub with the projections above is that we probably won't be done paying off the mortgage by either of those FI dates above (June 2020 for a 4% SWR, or July 2021 at 3.5%). So, somehow, we might be technically financially independent even though we won't have finished a major part of our FI plan: being completely debt free. There are a couple ways I can interpret this:
  • Maybe we are just very fortunate, in that we could be financially independent while still having a mortgage, and everything will just get much much better once it's paid off in another year or three.
  • Or maybe we are playing with fire (yuck yuck) because we're already in year ten of this bull run, trying to thread the needle on an arbitrage play. Once we approach FI, perhaps we should use some of those paper gains to pay off the mortgage all at once, capital gains taxes be damned.
And how do we account for the fact that our expenses are almost assuredly going to go way down (by about $15,000 or so annually), once we're mortgage free again?

Should we account for those lower expenses someway in these projections? Yeah, probably. But the small 'c' conservative in me just wants to build a plan around spending $50k annually, while knowing once we pay off our last debt that we'll spend somewhere in the $35k-$40k range.

With all this uncertainty, maybe we need a financial independence coach.

What would you do in our situation, kind readers?

If this bull market keeps running, would you take the profits once you hit financial independence and pay down the mortgage all at once?

Regardless of the mortgage approach, would you plan for a lower spending amount, post-FI, by subtracting the amount of your mortgage from your projected spending?

Let me hear it in the comments and, as always, thanks for reading.


*Photo is from Tim Green at Flickr Creative Commons.

33 comments:

  1. I'm not close to FI, so not sure how valuable my thoughts are at this time. Especially coming from a 28 year old. However, I personally would plan for the higher spending amount, which includes your mortgage, even if you decide to eliminate the mortgage. I like to be conservative.

    Our situation is a bit more complicated. If in 10 years we have saved enough, and hopefully come close to paying off the mortgage, I'm predicting the expense of the mortgage will be replaced by the expense of supporting my parents' expenses.

    Plus, it's always to have a cushion right?

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    1. Hey there, SFL.

      Yes, it's great to have a cushion! Better safe than sorry, and all that.

      I can see how supporting parents can really throw projections for a loop. We know that's a possibility for us as well. I imagine it might simply involve parents moving in with us, which hopefully won't actually result in a lot of monetary costs, besides medical.

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    2. Yes, it's always good to have a cushion. My 28 year old self can't imagine living with my parents. Especially since I spent my entire childhood dreaming about moving out. I started my countdown at age 8!

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    3. Yeah, I can see that. It's not ideal by any means, but I think as an 'oh shit' scenario, I think it might be better than, say, having my mom live in an assisted living home.

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    4. Just a quick note about parental costs being low besides the medical-- don't underestimate how many medical-related costs there are that go beyond what's covered by insurance. My mother lives with family (not us), can't bathe herself, and doesn't want anyone in her family seeing her fully naked. She also has very frequent night wakenings to use the bathroom and can't get in/out of bed on her own. We have paid caregivers coming in for a few overnights and mornings each week so that she can get shower help and so that the family caregiver--one of my aunts, who is retired--gets sleep and some relief from the 24/7 pressure of it all. This isn't covered by insurance, and it adds up, but-- we see it as a necessity for my mother's happiness and to help stave off caregiver burnout in my aunt.

      We also look at this as an interim-term situation, with the expectation that my mother will have to go into (also expensive, even with LTC insurance) assisted living at some point. My aunt is also older and has her own health problems. Either one of them could get enough worse that their living situation could become unsafe for them and unsustainable for the family.

      I would actually prefer that my mother be in assisted living if she was less unhappy at the thought of being there. I think she would get better and more consistent care, have more people to socialize with, and we wouldn't have to worry as much about some part of the caregiving situation failing. (All it takes is a bad cold, and at least 1/3 of her help is out of commission. At least in assisted living, there's more staff to draw upon when a caregiver gets sick.)

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  2. My thoughts? I'm on a similar timetable to you and I'm already thinking I need to be braver and just go for it... however I'm single and in a much better position for just upping and hanging at that shack on the beach for a while.

    However I suspect we both want that bear to come now, so we can dollar cost average it down when still working and earning, and then watch the recovery as we still work, and then FIRE knowing we've survived the worse and sequence of returns risk is looking lower.

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    1. I like the call for bravery, Ms. ZiYou! Yes, that's certainly going to be required to actually pull the trigger. I daily waiver between wanting to actually be retired as well, or whether I'll just keep on working while FI.

      And yes, a bear coming now wouldn't be so bad. Though it sure would be nice to take profits, pay off the mortgage, and for the bull to keep on running. A man can dream.

      But yes, better still to have the dip happen while working, buy it, and as you said, mitigate the bad sequence of returns. That's what really kills FI plans.

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  3. I haven't played around with the Mad Fientist lab but I'm curious how you project expenses when you have a kid and might have another kid or kids. Kids may not be as expensive as some people make it seem like...but they sure aren't cheap. It's a pretty big variable.

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    1. Great point, Andrew. Kid expenses are hard to project. I think that's why I kind of like the idea of just projecting a $50k annual spend and planning for that, even though we'll have the mortgage paid off and thus avoid $15k in annual expenses. The kids (and their insurance, lumpy one time expenses, etc) could basically account for that.

      Luckily, we'll have a few years of expenses with the kids to establish a baseline of sorts...but the second kid will barely be here. He might only figure into the final year of expenses.

      Luckily, the Mad Fientist's lab uses your last running 12 months as the average, rather than a long term. As you can see from that green line...we're seeing some lifestyle creep!

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  4. You just have to play it by ear. 3 years is still a while yet. Who knows what's going to happen next year? Things might change significantly by then. Just keep saving and investing for now and I'm sure you'll figure it out by 2021. It'd be great when you're done with your mortgage.
    You also have to wait and see how the health insurance thing will work out. Health care might be more expensive in 3-4 years.

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    1. Good points about just rolling with the punches, Joe. And yes, who knows what the ACA will be like in that timeframe. A big part of our plan assumes we will qualify for subsidies under the ACA...but that's a shaky assumption under the current admin & Congress.

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  5. Few too many variables (kid costs, healthcare, more kids, bull market vs. recession) to not be conservative in your projections. Aiming for 50k/year at 3.5% is the prudent thing, and adjust calculations in two years as needed.
    Time to buy the domain donebyfortyish.com

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    1. Ha! I love that idea, Adam...and the domain is available. Very tempting.

      It'll be interesting to see how our mindset changes if we actually hit that point (having enough assets to be FI at 3.5% and 50k spending, when our annual spending is more like $35k). Will we actually relax enough to pull the trigger on a possible early retirement?

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    2. "Time to buy the domain donebyfortyish.com"

      I came here to make that exact same recommendation. I'm in my (very early) 50's and while I myself wouldn't mind hitting the beach, my SO will not allow me to totally retire, mostly because we do still have a kid to fund through college, etc.

      So the goal line is a moving target, for folks like me.

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    3. Shit, this kid is going to probably want to go to college, isn't he.

      *Searches for domain title, donebythetimeI'mdead.com

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  6. Personally, I would be paying off the mortgage. Sequence of returns in the first few years of my retirement is my biggest worry, and by eliminating $15,000 a year in expenses that is a great buffer to have during a recession.

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    1. Hey there, YMB. Yes, sequence of returns risk is the big issue with FIRE, for sure. Big ERN convinced us of that.

      The more I think of it, the more I want to get this mortgage gone asap.

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  7. I definitely count my mortgage progress separately from FI progress, because it is a rather larger portion of our spending - about 1/3. But I'm using these two numbers more as metrics to monitor progress at this point, rather than input to make a decision on when to FI. FI is quite a ways away for us, and we'd probably want to move to a place with less expensive housing if it was a primary goal.

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    1. Hey there, Stacking Pennies.

      I like that you track mortgage process separately. In a way, I guess I do, too (spending in the green line, FI progress is the blue.

      Moving to a less expensive COL area is a savvy FI move. We're pretty in love with our little spot in AZ at this point but life is long -- who knows how we'll feel in five or fifteen years.

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  8. You have some pretty big things cancelling each other out there, the mortgage being paid off soon is the biggest thing in your favour because that will take a massive chunk out of your spending.

    However you've said that you might (probably?) will want to keep working once you are technically FI anyway so surely all of this is moot? :)

    I think once you've decided on that, then you can decide if any of this is really worth worrying about.

    If you do however definitely want to quit/retire then I think the bull market coming to an end is by far the biggest risk. Imagine if there was 30-50% pull back. This would be carnage to your and many other's ER (and even more folks normal retirement) dreams. Even if that happened in the next year or so, I think you are too close to your ER date now to ride that out without it pushing back the date by at least another year. So as Ms ZiYou suggested wishing for a bear right now, I'm not so sure about that.

    Of course there is no way of knowing if/when this will happen so I guess if you reached your number, especially the 3.5% SWR and you want to ER then I would just pull the trigger and go for it. I'm sure you could easily get some part time work to top up the vanguard funds if a downturn did come and you felt uneasy about drawing down capital.

    Good luck whatever may come :)

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    1. Oh and that picture looks distinctly like England... or am I mistaken and they've started building houses like that in the US as well now? :)

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    2. Hey there, FIREStarter.

      "You have some pretty big things cancelling each other out there, the mortgage being paid off soon is the biggest thing in your favour because that will take a massive chunk out of your spending.

      However you've said that you might (probably?) will want to keep working once you are technically FI anyway so surely all of this is moot?"

      Yep, we may certainly keep working because the job is so good (work from home, good pay, satisfying/meaningful and more so as I approach FI). Plus, we've written about how retiring early seems to have a pretty significant impact on cognitive abilities. But I've never been great at predicting how plans will work out years in advance, so who knows how we'll feel then.

      "If you do however definitely want to quit/retire then I think the bull market coming to an end is by far the biggest risk. Imagine if there was 30-50% pull back. This would be carnage to your and many other's ER (and even more folks normal retirement) dreams. Even if that happened in the next year or so, I think you are too close to your ER date now to ride that out without it pushing back the date by at least another year. So as Ms ZiYou suggested wishing for a bear right now, I'm not so sure about that."

      Well, that's the catch. The recession/market pullback will certainly happen, it's just a matter of when. So the question is whether it's better to happen while working and you can adjust your FI plans/early retirement date, or better to happen in the early years of your retirement. If it's a choice between those two, it is WAY better to happen while still working.

      Luckily, the 3.5% number historically has weathered very bad scenarios something like 95% of the time (again referencing ERN here) so hopefully that bears out in this high CAPE environment as well.

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    3. P.S. - I don't actually know where that photo is from! But thank goodness for Flickr Creative Commons.

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  9. I would budget for the number you know you spend. If you will have paid off the mortgage, such that your annual is $35 not $50, then I would budget FI around the $35 number. The padding will just push out your FI timeline for a hypothetical spending increase that may or may not happen. That said, I'm wary of paying off a mortgage b/c rates will probably trend up. If you have a low rate now, you probably won't get a lower one if you ever need to refi. Also the money you spend paying off your mortgage could instead be kept by you as a reserve. Yes, that means you pay interest at 3, 4, 5% but that's still cheaper than having to access a credit line (or worse, spend on credit cards) in a pinch.

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    1. Hi there, Caroline.

      I hear you on perhaps $35k being the more 'true' number to budget for as we're currently projecting. But with one kid only 3 months old and our plans to have a second, and having to pay for things like health insurance for the four of us, I just have to assume the number will shade higher in the future.

      Will that be $50k? Maybe.

      Interesting take on not paying down the mortgage. Yeah, we are at 3.75% now so, there was a time in my life that I'd advise others never to pay that down and, instead, to invest all those funds as an arbitrage play.

      But now that we're so near to FI, sequence of return risk matters a lot more to me than opportunity costs.

      I'd like to think we wouldn't need to access debt (credit line/credit cards) in a pinch given, well, that we have all these liquid assets. But who knows? We do keep an emergency fund in cash but it's not huge ($10k currently).

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    2. Yes, there's definitely a certainty both financially and emotionally that paying off the mortgage offers. I go back and forth too but I'm holding onto mine at 3% and any rental mortgages below 5%. That's my set point, I guess!

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  10. Your dedication motivates me.

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  11. The graphics are unclear on mobile btw, but I think you’ll find that when you hit your number, you won’t feel comfortable leaving and want to get at least one more year of buffer because anything can happen. It’s really hard to leave psychologically, which is why so many men say they are retired, but have working wives.

    Is the psychological aspect that is the toughest.

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    1. Thanks for the heads up on the mobile, Sam. (Now if only I were tech savvy enough to fix it.)

      I agree that we'll want to pad things a bit, especially as I like my career more and more, as it becomes less and less about the money.

      Mrs. Done by Forty may decide to work after a brief haitus with the kiddo(s)...but we think it could go the other direction, too.

      And yes, the psychological aspect of leaving sure seems like it will be the hardest bit. The money's pretty cut and dried. How I feel about the money...

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    2. A lot of wives stay working because they a.) enjoy their work friends and the sense of accomplishment a career can offer, and b.) who wants to sit around all day with their early retired husband? ;-)

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    3. Hey Cubert! Sorry for the delayed reply.

      And I agree: my mere presence may induce Mrs. Done by Forty to lean in to her career.

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  12. You got a comment from the Master himself - The Financial Samurai! Neat.

    Our plans aren't too far apart. I'll be coming in under the wire to have our mortgage paid off before I ditch our shared enterprise next year.

    My advice is to set up scenario spreadsheets. "Triangulate" to where you've covered your margin of safety and that's the point at which you can retire. It may or may not overlap the mortgage pay-down. My scenario gives us about $10K-$20K over and above annual expenses for "just in case".
    Good luck, brotha!

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    1. I like the advice a lot there, Cubert. And our mortgage is right in the middle of that just in case buffer range you describe.

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