How much money do you need to never work again? I know you’ve thought about it. But have you ever done the math?
Keep reading as we work through the numbers together. They’re actually quite surprising.
Even if you’re just daydreaming about riding off into the sunset forever, you’ll likely find the math thought-provoking. If you’re actually serious about making it happen, the analysis will either be encouraging or a wake-up call.
In other words, buckle up!
How much money do you need to never work again? The simple answer
The average American household would need an investment portfolio valued at $1,575,900 to never work again. In Canada, meanwhile, the average household would need investments totaling $1,722,500.
First, let’s discuss how I arrived at such specific numbers. Then, I’ll tell you why that approach is flawed. Later on, I’ll help you arrive at more accurate numbers for yourself.
How I arrived at these numbers
Here’s the formula I used:
annual spending / 0.04 = how much money you need to never work again
Let’s deconstruct it.
First, we have the annual spending portion. This is the amount of money you need available each year to maintain your current lifestyle.
According to the U.S. Bureau of Labor Statistics, the average American household spent $63,036 in 2019. Statistics Canada, meanwhile, pegs the average household’s consumption north of the border at $68,900.
These are the numbers I used in my simple calculation.
The next part of the formula introduces the 4% rule.
According to this widely-accepted concept, you can safely withdraw 4% of your investment portfolio’s value each year and never worry about going broke.
In other words, to stop working, you’ll need a portfolio large enough that 4% of its value amounts to your annual spending. To implement this logic, my formula divides annual spending by 0.04 (4%).
Let’s bring these pieces together now.
Here’s what my formula looked like when determining how much money the average American household would need to never work again:
$63,036 / 0.04 = $1,575,900
Here’s that same logic applied to the average Canadian household:
$68,900 / 0.04 = $1,722,500
Seems simple enough, right? This is actually the formula many online retirement calculators use. It’s far from perfect, though.
Why this approach is flawed
There are a few issues with the above formula.
Inflation is not one of them, by the way. The 4% rule accounts for it by encouraging you to invest your money in stocks and bonds. As your investment portfolio’s value grows every year, so will the amount equivalent to 4% of it.
Let’s analyze the actual reasons to be wary of such a simplistic calculation.
Problem #1: Your spending may not be average
I based my calculations above on average annual household spending data from the American and Canadian federal governments.
Naturally, some of you reading this article will find those numbers don’t align at all with your spending. That’s just how averages work.
You could overcome this problem by plugging your own actual spending data into the formula. However, that raises another issue.
Problem #2: Your spending may change in retirement
Retirement comes with major lifestyle changes. People often assume those changes will mean reduced spending. That’s certainly true in some cases – but not all.
According to the Employee Benefit Research Institute’s 2020 Retirement Confidence Survey, 34% of retirees spend more than anticipated.
This happens for many reasons. Often, people pursue lifelong dreams in retirement. While trips to Europe and vacation homes in Florida are certainly fulfilling, they can also push your expenses far above pre-retirement levels.
Also, health issues tend to appear more frequently as we age. Those can be quite expensive to deal with.
Problem #3: Your investment portfolio may (justifiably) differ from what the 4% rule is based on
The 4% rule assumes your investment portfolio is made up of 60% stocks and 40% bonds. That’s not necessarily the best approach for everyone, though.
People who are risk-averse often lean more heavily towards bonds. That’s great for limiting losses in the market but it also hinders returns.
I’m not saying those people should suck it up and put more money in stocks. On the contrary, it’s quite smart to stick with a strategy that aligns with your risk tolerance. You just have to recognize any deviation from the 4% rule’s assumptions may produce different results.
Problem #4: Your retirement length may also differ from the 4% rule’s assumptions
Another assumption baked into the 4% rule is that your retirement will last 30 years.
If you retire at 65, though, that’s an optimistic assumption considering the average North American’s life expectancy is 78. In other words, you may need a lot less at 65 than the 4% rule suggests.
If you’re reading this article, though, I assume you plan to retire much earlier in life – perhaps with 40 or 50 years left on the clock. In that case, the 4% rule may make you underestimate the amount of money needed to call it quits forever.
Problem #5: The 4% rule assumes higher interest rates than are currently available
The 4% rule dates back to the 1990s. While I’ve blossomed greatly since then, U.S. interest rates have not. In fact, they’ve taken a nosedive, going from 8.1% in 1990 to as low as 0.7% recently.
As such, the 4% rule’s assumed 40% bond allocation may no longer produce returns great enough to ensure financial security in retirement.
Check out this great article from Plant Money Seeds for a look at some of the other caveats you should keep in mind when using the 4% rule.
Solving these problems
You may be wondering why I spent so much time discussing an approach that doesn’t work.
Well, in doing so, I’ve hopefully got you thinking about the nuances of planning for financial independence. Next, I’ll provide some tips for addressing these nuances and ultimately obtaining enough cash to escape the rat race.
Tips for calculating your financial independence number more accurately
Work with an advisor
While bloggers like myself offer food for thought, a professional retirement advisor provides personalized solutions and guidance. They’ll help you figure out your financial independence number, achieve it, then make that money last.
This professional guidance is incredibly important. Even smart people fumble their retirements through poor financial decisions in absence of a thought-out plan. You don’t want to be one of them.
Consider which assets you’ll be keeping your money in
As I mentioned earlier, the 4% rule’s portfolio of 60% stocks and 40% bonds is not right for everyone. Work with an advisor to determine which asset allocation will most likely align with your risk tolerance in retirement.
This is among the most critical steps when it comes to determining how much money you need to never work again. After all, your investment portfolio will likely your primary source of income in retirement. Lower expected returns may necessitate a higher balance.
Check out this article for a primer on the many different types of investments out there.
Determine how retirement will affect your cost of living
Your cost of living will almost certainly change in retirement. Whether it rises or falls depends on many personal factors, including your goals, living arrangements, and health.
Don’t underestimate the latter expense, especially if your employer currently covers healthcare premiums. Other factors worth paying special attention to include:
- whether your mortgage will be fully paid off in retirement
- how often you plan to travel
- whether you’ll still need a vehicle
- any one-time expenses that might pop up (i.e. renovations, investing in a child’s business, etc)
An accurate prediction of future annual living costs will make your retirement planning so much easier. Plug that number into the formula I’ve used throughout this article (annual spending / 0.04) to determine how much money you need to never work again.
Keep in mind that your retirement spending likely won’t stay consistent throughout the years. As you age, your healthcare costs will likely increase, for example.
View your retirement in stages
You can account for varying spending throughout retirement by breaking the journey into specific phases. Experts generally make the following distinctions.
Note: These stages are largely defined by age, with experts assuming you’ll retire in your 60s. If you retire earlier, some things might change. For example, you may have a longer period of retirement before healthcare costs spike. These nuances are worth discussing with your advisor.
1. Pre-retirement
This is the stage you’re presumably in right now. Here, you’re a full-fledged member of the workforce with at least a few years left before retirement. In other words, it’s not something you’re about to do imminently.
While it’s easy to neglect retirement planning at this stage, you’ll regret it. As you’ve probably seen by now, there are many little things to plan for. Take care of them now and you’ll enjoy a hassle-free retirement.
2. Early days of retirement
At this stage, you’re free! If you retire early, your health will likely be in good shape.
According to financial experts speaking with The New York Times, retirees typically see their spending change most dramatically during this stage. You’ll likely lose any employer-sponsored healthcare and may even go on spending sprees to enjoy your newfound freedom.
While you certainly deserve to treat yourself, avoid financial irresponsibility. Otherwise, you may burn through cash too soon.
3. Middle retirement
Your lifestyle should stabilize at this point. Data from the U.S. Bureau of Labor Statistics suggests most expenses (except healthcare and housing) decrease at this stage as well.
4. Late days of retirement
In late retirement, your healthcare spending really spikes – especially if you experience major illnesses. In terms of spending, you’ll want to reevaluate your nest egg at this stage to ensure it’s not running low.
Account for taxes
Many people save for retirement in specific tax-advantaged accounts. If you live in the United States, there are many to choose from.
The minimal taxes you’ll pay on funds from these accounts can still affect how much money you need to never work again, though. If your retirement savings are held in non-tax-advantaged vehicles, the effect will be even greater.
This is where, once again, your retirement advisor will come in handy. They can help you calculate the impact of taxes on your financial independence number.
Adjust your withdrawal rate as needed
By now you should know the 4% rule is best treated as a rule of thumb. You can make adjustments as needed.
Your portfolio is one variable. Your withdrawal rate (the percentage of your portfolio you cash out for living expenses annually) is another.
According to Fidelity Investments, you generally want to keep your withdrawal rate no higher than 4% to 5%. Some experts – like Wade Pfau in this interview with Morningstar – recommend targeting a withdrawal rate as low as 3%.
If we adjust our original formula based on that reduced guideline, the average American household would need $2,101,200 to retire forever. Canadians would need $2,296,666.
Again, consult with your financial advisor to determine an appropriate withdrawal rate. It will depend on factors such as your portfolio and anticipated spending.
Take your anticipated retirement length into account
Retiring early may sound like a dream come true. In many ways, it probably is.
However, it also dramatically affects how much money you need to never work again. Calling it quits in your 30s or 40s will likely require tremendous effort, planning, and wealth.
As I mentioned earlier, concepts like the 4% rule typically assume you’ll retire with about 30 years of life left. Check out this post from the Mad Fientist for some tips on adapting this concept to a longer retirement. In a nutshell, he proposes:
- a more aggressive portfolio allocation (80% stocks, 20% bonds)
- keeping the option of work open
- remaining flexible
Consider whether never working again is actually the goal
As you plan for retirement, it’s worth considering whether you really never want to work again. Could it be you hate your specific job as opposed to the idea of work as a whole?
Further, is there a passion you’d love to spend more time on but never could because it doesn’t pay a livable wage? Here’s where you can get creative. Even a modest side income (i.e. $1,000 a month doing something you love) can complement your investment portfolio’s returns, making early retirement possible.
Tips for accumulating enough wealth to never work again
Next, let’s look at some tips for accumulating enough wealth to pack it in and retire for good.
Start saving as early as possible
When it comes to personal finance, time is your friend. Even if you have no desire to retire early, putting off planning, saving, and investing is a mistake (see my first point in this article).
Create a plan and set it in motion as early as possible. Be organized and systematic with your money!
Avoid lifestyle creep during your working years
Lifestyle creep is the habit of taking salary increases and putting them towards discretionary purchases rather than boosting your savings.
Say, for example, your monthly salary increased by $2,000 and you decided to put all that money towards a new BMW lease. That’s lifestyle creep.
Even financially responsible people who believe their salary prospects will only improve going forward fall victim to this habit. If you plan on retiring early, avoid it at all costs. Put salary increases towards an investment portfolio that will support you in retirement.
Live below your means
Related to the concept of avoiding lifestyle creep is that of living below your means. In a nutshell, this involves spending far less than you earn. It’s the only way you’ll ever accumulate enough money to never work again.
This isn’t just about saving. It’s also about building habits. If you live beyond your means while working, you’ll do the same in retirement.
Check out this post for some concrete steps on living below your means.
Consider taking mini-retirements along the way
Earlier, I mentioned that living expenses tend to increase dramatically early on in retirement as people enjoy their newfound freedom. If you get out of hand in this regard, your entire retirement could go up in smoke.
Creating healthy spending habits that will follow you into retirement is certainly valuable. You may also want to consider knocking items off your bucket list throughout life rather than waiting for retirement.
That dreamy month-long trip to Europe? Why not take a sabbatical in between jobs and make it happen?
If you’re the frugal type, this probably sounds incredibly irresponsible. Handled correctly, it can actually be the exact opposite, though!
Here’s a hypothetical roadmap with these mini-retirement milestones incorporated:
- Identify how much money you need to never work again.
- Create a plan to save and invest so you can hit that amount.
- Budget for mini-retirements along the way as the desire arises. Adjust your monthly savings targets so you remain on track to hit your financial independence number.
This approach gives you the luxury of being able to compensate and course-correct while you’re still in your prime earning years.
Approach major purchases (like houses and cars) carefully
Major purchases like homes and vehicles can have a huge impact on your ability to accumulate enough wealth for retirement. Don’t bite off more than you can chew. Use the money you save by avoiding oversized monthly payments to build your freedom fund.
Conclusion
I hope this article has helped you think creatively about how much money you need to never work again.
The process of writing this article actually made early retirement seem more feasible to me. We often think about wealth on the scale of billionaires like Jeff Bezos and Elon Musk. In reality, you can accomplish much of your goals with far lesser amounts accrued over time.
