How to FI: How to Create a Path to Financial Independence

Financial independence is a mainstay on the Internet and a shared desire of millions of people. There’s even a moniker for it – FIRE, which stands for Financial Independence, Retire Early

I think most people get the basic concept. You work to reach a point where you no longer need to stress about money or when you’re even able to quit working altogether and retire early. 

But in this article, we’re going to discuss the mechanics of how to FI? After all, it’s just a theory unless you have a plan in place to get there.

Let’s look at financial independence, from the planning stages to the strategies for getting there, and crossing the finish line.

Table of Contents
  1. Know Your 2 FI Numbers 
  2. Determining How Much You’ll Need When You Reach FI
  3. The Safe Withdrawal Rate – a.k.a, The 4% Rule
  4. Determining How to Reach Your FI Portfolio Value
  5. 7 Strategies to Reach Your FI Portfolio
    1. 1. Create an Aggressive Savings Strategy
    2. 2. Choose the Right Investment Mix
    3. 3. Save and Invest Relentlessly
    4. 4. Increase Your Income
    5. 5. Make Adjustments Along the Way
    6. 6. Don’t Get Distracted
    7. 7. Readjust Once You Reach FI
  6. How to FI: Final Thoughts

Know Your 2 FI Numbers 

There are two mission-critical FI numbers:

  1. How much money you will need to live in FIRE, and
  2. How much money you’ll need in your portfolio to generate that income each year.

WARNING: There will be a lot of math in this article, but we’ll take it slowly, so you’re not overwhelmed. 

Determining How Much You’ll Need When You Reach FI

If you’re going to reach FI, especially the early retirement version, it’s essential to get this number right. The easiest way to calculate the number is to start with your current living expenses. For this exercise, were not considering your income but only how much of it you need to live.

Start by making a list of all your expenses, calculating those costs over the past 12 months. That will give you a good idea of your average monthly expenses. Remember, this is a search for hard numbers.

Let’s say that after doing a 12-month expense analysis, you determine you’re currently living on $40,000 per year. Excellent, but don’t stop there.

Make adjustments based on rough estimates of any changes you expect in your budget once you reach FI. For example, if you are retired, you can exclude commuting expenses and require less money each month for new clothes, dry cleaning, and the morning Starbucks run.

An important consideration here is debt.

If your current budget includes a significant allocation toward monthly debt payments, you can lower your income by incorporating a plan to get out of debt completely. For example, if you’re no longer working, you probably won’t need a new car every few years, eliminating the car loan and monthly payment.

In the opposite direction, you may need to increase certain expenses. For example, you may want to add additional money for travel and hobbies you expect to expand once you reach your goal.

Let’s say that you determine you’ll need $50,000 per year to achieve financial independence after making adjustments.

Now let’s work on how to get there.

The Safe Withdrawal Rate – a.k.a, The 4% Rule

The safe withdrawal rate is the rate at which you can safely withdraw from your investment portfolio each year without ever running out of money.

Personal finance folks often refer to the safe withdrawal rate as the “4% rule” because a portfolio that earns 6% to 8% per year will accommodate 4% annual withdrawals and leave enough growth in the portfolio to enable it to keep up with inflation.

Historical S&P 500 returns support the validity of the 4% rule, meaning that an equity portfolio should deliver the necessary 6% to 8% returns. While you’re making those withdrawals, your portfolio will continue to grow, all but eliminating the possibility you’ll run out of money during your lifetime.

Determining How to Reach Your FI Portfolio Value

So far, we’ve determined the first of the two FI numbers you’ll need – how much money you will need to live in FIRE – and one critical metric, which is the safe withdrawal rate of 4%. We’ll need both to determine the second FI number, which is how much money you’ll need in your portfolio to generate that income each year.

Once again, we need to do some math.

There are two ways to determine how much money you will need in your portfolio in FIRE, both using the safe withdrawal rate.

The first is to divide the annual income requirement by 4%. The second is to multiply the annual income requirement by 25 simply. Either calculation will get the job done.

Let’s take a look at both.

Using the percentage method:

Divide how much money you will need to live in FIRE – which is $50,000 – by 4%. The math equation looks like this:

$50,000 divided by 4% (or 0.04) = $1,250,000

Using the multiplication method:

We multiply how much you will need to live in FIRE – $50,000 – by 25. The math equation looks like this:

$50,000 X 25 = $1,250,000

As you can see, both calculations bring you to the same portfolio size – $1,250,000. Using the multiplication method will probably be the easiest, but you can choose whichever calculation works best for you.

Using either calculation, we see that you’ll need $1,250,000 in your portfolio to generate that income ($50,000) each year. 

At this point, you now know your two FI numbers. Now it’s time to create the strategies that will get you to the portfolio size you’ll need to provide you with the coveted income for life.

7 Strategies to Reach Your FI Portfolio

There’s no secret formula to reaching FI status. But there are many strategies you can implement to make it your reality. There are seven basic strategies, and you’ll need to both implement and commit yourself to staying on track with each.

1. Create an Aggressive Savings Strategy

Aggression is key. You won’t reach FI saving the standard recommended 10% or 15% of your pay. That may get you to a comfortable retirement at 65, but it won’t get you close financial independence much before then.

No, you’ll need to think much bigger – like 30%, 40%, 50%, and even more of your pay going into savings and investments. You can start at, say, 20%, then increase to 40% over the next five years. 

For example:

  • Eliminate any unnecessary expenses in your budget.
  • Cut all other variable expenses by at least a small percentage. You can increase the rates cut over time.
  • Once you pay off a debt, don’t replace it with another debt.
  • Avoid unnecessary new expenses. Reaching FI requires a healthy dose of discipline.

If you’re a naturally frugal person, none of this should be difficult or out of the ordinary. But if you’re not, it will feel a lot like a crash diet. You’ll need discipline and a long-term commitment to an often dull journey of self-denial. But nothing worth accomplishing is ever easy. 

It may help you stay focused on your ultimate goal of achieving financial independence. Your emotional state will improve as your portfolio value increases despite the economic self-denial.

Finally, it would help to direct all savings to their intended purpose. That’s your investment portfolio, and that’s Strategy #2.

2. Choose the Right Investment Mix

In today’s super-low interest rate environment, you won’t reach FI by putting your money in safe investments, like bank accounts or even certificates of deposit. The returns are well below 1%. 

If you’re going to reach any version of FI, you’ll need to invest primarily in stocks. The average annual rate of return of 9+% will be the best way to grow your money, even though it won’t be consistent each year. 

But don’t get hung up on the consistency factor! 

The annual average return on stocks is based on performance over several decades. Since it will likely take you a decade or more to reach FI, the 9% average should hold over multiple years.

The younger you are, the more you can invest in stocks. For example, if you’re in your 20s, holding 80% to 90% of your portfolio in stocks wouldn’t be reckless. After all, you’ll have plenty of decades to make up for the bear markets that are inevitable along the way.

Here’s an example.

You’re 25 years old, so you set your allocations to 80% stocks and 20% bonds. 

With stocks expected to earn about 9%, the stock portion of your portfolio will produce an average annual return of about 7.2% (80% X .09).

With an average annual return of about 2%, the 20% bond allocation will contribute an additional 0.4% to your overall return (20% X 0.02). 

Together, the stock and bond allocation will generate an annual return averaging 7.6% (7.2% + 0.4%).

By investing $20,000 per year at 7.6%, your portfolio will grow to just over $1,435,000 in 25 years. That’s a little above the $1.25 million we established as your portfolio target for achieving FI. The heavy stock allocation is what makes this kind of portfolio growth possible.

Where to Invest Your Money

You’ll need to invest in stocks and bonds, so choose an investment platform that can accommodate both.

For many, the ideal choice will be exchange-traded funds (ETFs). ETFs holdings are matched to popular stock indices, like the S&P 500 for the NASDAQ 100. They’ll give you exposure to stocks but without having to choose.

The same is true with bonds. You can hold your bond allocation in index-based ETFs tied to the bond market of your choice.

If you know nothing about investing, you can choose an automated online investment platform, better known as a robo-advisor. They’ll handle all the investment details, including building your portfolio, rebalancing it periodically, and even reinvesting dividends.

One of the leading robo-advisors is Betterment. It was the first robo-advisor and remains the largest independent robo in the industry. Not only will Betterment manage your entire portfolio for you using index-based ETFs, but they’ll do it at a low cost, generally 0.25% per year. Find out more in our Betterment Review.

If you’re comfortable choosing your investments yourself, you can work with a diversified investment broker, like Ally Invest. There, you can trade stocks, ETFs, and even options commission-free. Check out our review of Ally Invest for more details.

If you prefer a hybrid investment platform, where you can choose your investments but have them professionally managed for you, look closely at M1 Finance. You can create multiple portfolios comprised of both individual stocks and ETFs. Once you do, M1 Finance will provide complete professional management of your portfolio. What’s more, they charge no fees either for investment selection or portfolio management. You can sign up here, or read our full M1 Finance review for more information.

3. Save and Invest Relentlessly

Once you’ve established your savings allocation and portfolio, the next step is to commit to your goal. Financial independence could take 15 years or 30 – are you in it for the long haul?

It may be you’re not able to save all that much, especially early in life. No problem – keep what you can and invest following the guidelines in Strategy #2. But as your income grows and you get better control over your budget, you can gradually increase savings contributions.

For example, let’s say you get an annual pay increase of 3%. Try increasing your savings contribution from 10% to 13% after the first raise, then to 16% after the second, and so on. In just a few years, you’ll gradually increase your savings rate to 20%, 30%, or even much more.

4. Increase Your Income

Though the ultimate goal of financial independence is to either reduce or eliminate your dependence on your job, don’t quit early!

By quitting, I’m not referring to leaving your job but instead coasting until you reach your goal.

Until you reach FI, your job will be your primary source of income. How much you earn will have a material effect on how much you can save and how quickly you’ll achieve FI. The more you make, the better everything will work.

For that reason, you must remain committed to your career until it’s time to exit. That will mean doing your best work, improving your skills and qualifications, applying for promotions, and doing everything else possible to maximize your income along the way.

Just as you can increase your savings contributions with each annual pay raise, you can supercharge contributions with promotions and bonuses. Always keep that in mind, and don’t “quit” too soon.

(and when you do quit, make sure you keep it clinical and simple in your resignation letter – don’t flick anyone off on the way out!)

Alternatively, you can consider starting a side hustle to increase your income. That will not only give you valuable extra cash flow, but it may form the basis of your post-FI career or business venture.

5. Make Adjustments Along the Way

The path to FI is unlikely to be a straight line, and there will be speed bumps you have to cross.

For example, you could lose your job for a time or go through a phase with unusually high expenses. There’s not much you’ll be able to do about either in the middle of the storm, so you’ll need to develop strategies to compensate for those obstacles after the fact.

For example, if you had to reduce your savings contributions for several months, adjust your savings plan to increase savings later on to overcome your contribution deficit.

You may need to do this several times between now and FI, so it’s good to be prepared when it does.

6. Don’t Get Distracted

Distraction avoidance might be the most crucial step because potential pitfalls are everywhere. We live in a consumer-driven society, and temptation lies at every turn. Whether it’s TV, radio, the Internet, or billboards, the message is always the same: buy. 

The people around us reinforce that message. Even if you’re financially disciplined, many people are not, and they’ll happily pursue the appearance of financial independence rather than the substance.

You’ll need to block that distraction out, whether it comes from the media or the people around you. That will require resisting the desire to buy a new car every few years, trade up on your home, or take exotic vacations.

7. Readjust Once You Reach FI

This strategy may be a bit of a surprise if you assume reaching FI means you’ll be home-free for life.

You won’t be.

The same challenges and obstacles you face before reaching FI will still be there. There will be times when your expenses are higher than budgeted or your investment income drops.

It’s why so many people continue working in some capacity – in a business or some other occupation that is more pleasurable and has lower stress.

Either way, it will provide an income source you can rely on during those times when your cash flow goes negative. That doesn’t mean you’re FI plan will have failed, only that it needs to be flexible in the face of real-life circumstances.

You may find there are times when you won’t need to work at all or other times when you’ll be working something close to full-time. That’s why it may be essential to maintain some income-earning ability that you can return to at any time if needed.

How to FI: Final Thoughts

I hope I’ve given you an idea of the time, effort, and discipline it takes to reach financial independence. Remember that it won’t happen overnight – at minimum, 15 to 20 years. If you’re prepared to commit for that length of time, FI may very well be in your future. And that’s a good thing because it’s a future worth striving for.

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About Kevin Mercadante

Since 2009, Kevin Mercadante has been sharing his journey from a washed-up mortgage loan officer emerging from the Financial Meltdown as a contract/self-employed "slash worker" – accountant/blogger/freelance blog writer – on He offers career strategies, from dealing with under-employment to transitioning into self-employment, and provides "Alt-retirement strategies" for the vast majority who won’t retire to the beach as millionaires.

He also frequently discusses the big-picture trends that are putting the squeeze on the bottom 90%, offering workarounds and expense cutting tips to help readers carve out more money to save in their budgets – a.k.a., breaking the "savings barrier" and transitioning from debtor to saver.

Kevin has a B.S. in Accounting and Finance from Montclair State University.

Opinions expressed here are the author's alone, not those of any bank or financial institution. This content has not been reviewed, approved or otherwise endorsed by any of these entities.

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