FIRE is the acronym for Financial Independence Retire Early and it is very popular within the financial independence community. FIRE number is the investment value you get to that enables you to stop working and be able to fund your life forever from regular withdrawals out of your investment portfolio.
I will simplify with an example:
Monthly living cost = €1,000
Annual living cost = €1,000 × 12 = €12,000
There is a widely accepted factor of 25 that is used to calculate the FIRE number with the annual living cost. If you get to this number, then you can make annual withdrawals at 4% of your portfolio. Back to the example:
FIRE factor = 25
FIRE number = 25 × €12,000 = €300,000
Withdrawal % = 4%
Annual withdrawal= 4% × €300,000 = €12,000
This is a very simplified explanation and it assumes your cost is static and there’s no inflationary impact.
Calculating the FIRE number is possible even though it may still be overwhelming for a lot of people. Particularly when you see the FIRE number and you can’t imagine how you will build up the investment value that matches it.
My personal logic is it is good to know the number as it provides a target to work towards. The most important thing is to start taking actions that reduces that number or moves you towards it.
Why should reducing the FIRE number be a target? Because this accelerates your ability to get to FIRE and it reduces the amount of money needed for investment. I wrote about the benefits of expense reduction when I personally experienced how powerful it is. In order to be able to reduce your cost, you need to know what you’re spending on. So budgeting and expense tracking needs to become part of your standard tasks until you have a good control of your spending. I still budget and track my expenses regular because it’s easy for me to go out of control. These actions enable me stay accountable in my money journey. When you know what you spend on, then you can identify how to reduce your spending. Back to our simple example, if by taking action the monthly cost reduces to €800, below is the updated FIRE number:
Monthly living cost = €800
Annual living cost = €800 × 12 = €9,600
FIRE factor = 25
FIRE number = 25 × €9,600 = €240,000
Withdrawal % = 4%
Annual withdrawal = 4% × €240,000 = €9,600
From this example, the €200 living cost reduction led to €60,000 reduction in FIRE number. This is how powerful expense reduction is. Every €100 reduction in living cost translates to €30,000 less in FIRE number. This enables decision making and taking action. I was quick to switch up my mobile provider to a low cost one when I realised I do not need to spend so much and this reduces my FIRE number.
The expense reduction of €200 is already moving our example towards FIRE as without doing anything else there is now €200 that can be invested for the future.
The next post will give a walkthrough on taking action towards FIRE.