Last Updated on July 26, 2020 at 10:31 am
FIRE in personal finance is an acronym for “Financial Independence, Retire Early”. Stay long enough in any personal finance forum, and you would realize that there is a lot of confusion about what is FIRE and more importantly, what it is not! I requested SEBI registered fee-only investment advisor, S. R. Srinivasan (who has shared his financial independence journey with us before) to explain FIRE – What it is, What it is not. If you are interested in FIRE, do check out our free ebook linked at the end of the article.
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S. R. Srinivasan (SRS) believes in numbers based insights, and naturally, I find this appealing. He has rigorously stress-tested his retirement corpus with various tools. You can approach him for your financial needs via srinivesh.in.
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His journey: How I achieved financial freedom and became an Investment Advisor! (part 1) and Factors that helped me achieve financial freedom (part 2). His other articles: List of Mutual fund categories that you can avoid! Older readers may also recall a Sep 2016 presentation shared by SRS: Growing Wealth: An engineering approach.
A better grammatical expansion for FIRE, which has been used earlier in this site, is Financial Independence and Early Retirement. The phrase FIRE is indeed catchy, and many people aspire for FIRE. This short article gives a perspective of what FIRE is, and is not, in an Indian context.
Note: In some contexts, Financial Independence(FI) is used to denote the phase when you are not dependent on another person, particularly when a person starts earning income. I prefer the phrase Financial Freedom(FF) due to this reason. In this article, I use the phrase FI.
FIRE is FIre, It is not fiRE, or even FIRE
A definition in Wikipedia says, “Financial Independence is the status of having enough income to pay one’s living expenses for the rest of one’s life without having to be employed or dependent on others. Income earned without having to work a job is commonly referred to as passive income.” If you take this definition, then FI is imperative for any person. Even in ‘normal’ retirement, the corpus has to be large enough to fund your living expenses for the rest of your life. When you start to earn an income, that income pays for your expenses. Your objective then would be to reach FI at some point in life. Since everybody needs to achieve FI, the focus should be on it and not on retiring early. You can achieve FI and continue to work. (Please see the initial part of this article: Notes on Financial Fortification)
The 1993 book “Your Money, or Your Life”, (YMOYL for short), by Joe Dominguez and Vicki Robin, is widely believed to have introduced the term Financial Independence. Joe Dominguez apparently saved enough by the time he was 30 to work without an income for the rest of his life. As you can see, he too focused on FI, and not RE.
FIRE is about conscious spending. It is not frugality.
As in many personal finance topics, there is far more literature in the West, read the US, on FIRE. Their spending culture is different, and people are urged to save 10% of their net income. The association of frugality with FIRE comes from this mindset. Wikipedia definition: “Financial Independence, Retire Early (FIRE) is a movement dedicated to a program of extreme savings and investment that allows proponents to retire far earlier than traditional budgets and retirement plans would allow. By dedicating up to 70% of income to savings, followers of the FIRE movement may eventually be able to quit their jobs and live solely off small withdrawals from their portfolios decades before the conventional retirement age of 65.”
Indians save much more. We may have picked up some of the profligate habits from the West, but we only have to look at our grandmothers’ habits to learn conscious spending. This article describes the Japanese method of Kakeibo. If you read the article, you would know that this is what our elders did – at least most of them!
Of course, frugality, minimalist spending, etc. help in achieving FI early. However, it is entirely possible to set your spending levels based on your preferences, and still achieve early FI. Practice your version of Kakeibo!
FIRE in India is many goals. It is not just living expenses.
For the rest of the article, it helps to define FIRE or early FI. Many organizations in India set the retirement age as 60. Some still have the earlier numbers of 58, 55, etc. Some of the tax policies use 55. e.g. If you ‘retire’ at 55 or later, you can invest the retirement proceeds in SCSS. We will set the mark at 55 for ‘normal’ retirement or normal FI. Any number below that is FIRE.
A typical Indian family is quite focused on the education of their children. Most consider it a duty to at least provide a good college education. Many extend their commitments to PG education, marriage, etc. A person with FIRE plans at 45 is very likely to have many large expenses for children. These tend to be lumpy and for a few years. Living expenses tend to be reasonably consistent (after adjusting for inflation) and are obviously spread through the lifetime. The plans for both accumulation and withdrawal phases need to be adapted for the different nature of expenses. The popular (or populist) Safe Withdrawal Method (SWR) addresses only the living expenses. (We would talk more about SWR later.)
It is not difficult to plan for large lumpy expenses during the FI phase. A simple way is to have a separate portfolio for each such expense and calculate the corpus with your FIRE plans. Many calculators don’t address this though. In fact, this motivated me years ago to develop my own calculators to estimate my corpus needs.
FIRE is a life choice. It is not just a financial choice.
Any FI requires a good amount of financial planning. FIRE requires greater planning, and FIRE aspirants may focus too much on the financial aspects. There is excessive focus on the FIRE number to be achieved – usually a corpus of many crores. Since it is more difficult to achieve early FI than normal FI, this focus tends to become overwhelming. Treat FIRE both as a journey and a destination. You should look to enjoy the journey too.
Another aspect is that your spouse should be fully aligned with the idea. You should also spend time to align your children with the idea.
Of course, FIRE also requires several lifestyle choices. The previous section focused on conscious spending, and this is basically a lifestyle choice that you should be comfortable with. It is quite easy to let your expenses grow in line with income. Keeping expenses in line with your plans is not easy to do.
Make FIRE into a family project and not just an individual drive. You and your family would then enjoy the journey.
FIRE in India is a belief. It is not proven algorithms.
To plan the accumulation of FIRE corpus, and to set up the withdrawal strategy, we need to make multiple assumptions about financial factors – inflation, return from government bonds, returns from equity, returns from other debt instruments, etc. Many earlier articles here have talked about the risk with Sequence of Returns.
Realistically the FI phase could last 40 to 50 years for many people. To ‘backtest’ any algorithm for the sequence of returns risk, you would need 20 plus years of FIRE start, and then 40 to 50 years of withdrawal. The data available in India is simply not deep enough to support this amount of backtesting. As a consequence, any ‘strategy’ for withdrawal is based on more assumptions and less data. Many FIRE aspirants instinctively feel that the 4% Safe Withdrawal Rate made popular by the Trinity study does not apply for India. They then change the number to 3% or 2.5% or 2%. If you want to follow the SWR method, you just need to pick a number and hope that it would be correct. There is simply no way, yet to prove the number.
A similar argument can be made for the bucket strategy that I follow and advise. The strategy can help in many ways, particularly when the expenses are lumpy. It also uses the mental accounting bias in a positive way – you associate different buckets with different asset classes, and the immediate buckets are in low volatility instruments. Still, the numbers can not be backtested in any robust way. And no, Monte Carlo simulation does not help since the inputs are based on historical data. We discuss this more in the last section.
FIRE accumulation is not that different from regular retirement
This section and the next section look to show that there are many similarities between regular FI and early FI. For a person in their 30s, FI at 45 and FI at 60 would mean different corpus numbers. But the approach to building the portfolio is not very different. There are very few exceptions, but one of them is very important.
National Pension System (NPS) is very unsuitable for FIRE. EPF withdrawal rules are aligned with your employment, while NPS exit rules are aligned with your age. The exit rules are optimal at the age of 60 and almost horrendous at earlier years. So if you aspire for FIRE, please stay away from all forms of NPS.
FIRE withdrawal is ‘active’. It is not pension-like
This is true for normal FI, but more important for early FI. The YMOYL book is considered a classic on FI corpus. But the book advocates using only government bonds for the corpus. In their context, this was good advice as the bond yields (i.e. interest rates) were in double digits. In India too, it is simply not possible to have simplistic withdrawal methods like FD interest, Annuity pension, Rental income, etc. to fund all your needs. Due to a variety of economic reasons, they would not be sufficient. You need to have a flexible strategy and adapt as you go. You can build a reasonable cushion if you can afford to. However, you would still need to be smart with your withdrawal strategy.
- You should expect interest rates to decline in the long term. (There could be short term cycles of increases.)
- You should also expect equity returns to reduce in the long term. (This article is from Jan 2020: Ten-year Nifty SIP returns have reduced by almost 50%
- You should expect rule changes and adverse effects from them. In the recent past, LTCG in equity has been made taxable, Small Savings Scheme returns have been linked to the market, etc.
This article was written a few years ago, and things have declined further since then: Why have we not seen a retirement crisis in India? Please read the last section as an encouragement to know more about your portfolio and increase your financial literacy. If you do that and avoid toxic products, you would do yourself and your FIRE corpus a great favour. The last point about toxic products is another article by itself. It would be great if you can name and shame some of them in the comments.
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