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FIRE, Financial Independence and Saving Money 2021

I’ve always felt that the world of FIRE (Financial Independence Retire Early) and Software Development go hand in hand. In this post, I wanted to talk about why and how I’m going about reaching Financial Independence and Saving Money.

What are FIRE and Financial Independence?

FIRE is a movement that’s formed as a counter to everyday societal pressures and expectations. We’re constantly fed advertisements into buying the newest and the best gadgets available, wearing the best Designer labels are driving the fastest cars. FIRE opposes this pressure by providing the ethos that you can have a minimalist lifestyle whilst saving heavily. Eventually, the aim is to have enough money saved to either retire from work or be Financially Independent (FI) enough to not need to work. Sounds pretty good to me.

Personally, Financial Independence is what drives me. I enjoy working (for now) but I love the thought of being able to walk away from a job knowing I’ll be fine. Effectively, financial independence transforms working from a requirement to a choice.

How do you FIRE?

Well the good news is the approach is simple :

  • Spend less money. The less money it costs you to live, the less you’ll need to save.
  • Save money in high-interest savings accounts. Long term, compound interest adds up.
  • Make more money. Expand your own skillset with interesting/valuable skills.

Cutting expenses is a very important aspect of FIRE. The general consensus on how much money you need to FIRE is 25 times your yearly living (this is based on a 4% withdrawal rate as per the trinity study). So if it costs you £30,000 a year to live, you’d need £750,000. But if you can cut things to £15,000, you’d only need £375,000, which suddenly becomes a lot more achievable. The challenge is to cut costs, whilst still enjoying life.

High interest on savings is another fundamental aspect of FIRE. Generally, people will save large amounts in savings accounts, despite terrible interest rates. This has a two-fold effect:
a) You’re not making more money
b) The value of your money could reduce if inflation goes up by more than your interest rate.

To overcome these issues, people following FIRE principles often invest in stocks and shares. In the UK there are two amazing tax-efficient mechanisms to do this:
1) Pensions
2) Stocks and shares ISA’s

We’ll dive into these in a bit more detail later. Finally, the best way to save money is to have earn more money to start with. It becomes significantly easier to save 50% of your salary when you can survive off 10% of it.

Pensions : Key to Financial Independence and Saving Money

In the UK, pensions are probably one of the most generous financial mechanisms available to a saver.

Take someone working on a salary of £40,000. From this, once tax has been deducted, they have a yearly take-home earning of £30,840.
If you earn £40,000 and save 10% of your salary into your pension you won’t pay any tax on the £4000 of money that you’re paying in. This means that on the same salary with 10% of your earnings going to a pension, you take home £27,640. In other words, you’ve saved £4000 but only had a £2360 reduction in take-home pay!

This is because you’re not taxed on money that’s paid into your pension, so it’s even more profound on higher-taxed salaries. Take £100k as an example:

 Gross Income  Pension Deduction  Take home 
 £        100,000 £               10,000 £                  60,640
 £        100,000 £                        –   £                  66,640

Effectively, saving £10k just cost you £6k as you’re saving £4k in higher tax rates!

But what about tax when you withdraw? Well, you get a 25% tax free allowance on that too! Amazing deal for investments. The only catch? Despite pensions being a great deal, you can only access it once you’re 55. Worse still? That age looks likely to go up.

But what’s a good way of retiring before 55? Well we look at that next.

Stocks and Shares ISA’s

If you’re looking at retiring before your pension kicks in, you need something to bridge the gap. This is where Stock and Shares ISA’s (S&S) can be particularly useful. Like pensions, these hold money in a mix of bonds and shares and can fluctuate wildly in value. Unlike pensions, you don’t get tax exemptions paying into them, but they aren’t taxed on any of the money taken out of them either. Effectively they act as a tax-free wrapper for any interest you make, irrespective of the amounts you save. This can be very important when looking at saving large amounts of money.

The intention is to save as much as you can in an ISA to bridge the gap until retirement age. The earlier you want to retire, the more you need in an ISA (there are other ways to bridge the gap, but we’ll skip them for now).

Next we’ll look at building a Financial Independence strategy!

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