- How Does the Zero-Interest Rate Environment Affect You? - September 21, 2020
- Find Out the Commuted Value of Your Pension - September 14, 2020
- Reader Case: Rent or Buy in Spain - September 7, 2020
In our continuing struggle to get back to a somewhat normal posting schedule, today we decided to do a reader case! It’s been a while, hasn’t it?
A recurring theme we’re getting from customer reviews of our book is that they “wish they knew all this 20 years ago!” To those people, I always respond that it’s never too late to get started, but to their point all this information we present does have the greatest impact on a person’s life if they receive it at the beginning of their working careers. Fortunately, today’s case comes from someone just like that, who’s just heard of FIRE right at the start of their career! Meaning they haven’t had a chance to make any major money mistakes yet, and are wondering what the right thing to do going forward is. So without further ado, let’s dig in!
Hey you two,
I’ve been reading your blog for a while now and just finished listening to your episode on ChooseFi. Very inspiring, especially as someone living in Vancouver, another insane Canadian housing market. Couldn’t agree more with you both about the cult of home ownership.
Anyhow, I thought it might be interesting to write in to you, as of today, we are are (basically) at ground zero of our FI journey. We paid off our $73,000 in student loans in one year last year, and just paid off our car this past weekend, so we officially have no debt!! Here’s a little bit about us:
- We are a small family of 3, our daughter is 5 months old
- We both work in healthcare and our net household income is $115,000.00
- Our monthly spending is about $4000
- I make 5% bi-weekly contributions to a company RPP that they match+0.5% pre-tax. It’s value is about $28,000 and the MER is 2%. I can’t get out of it or manage it myself. It would be converted to a LIRA that I can manage if I left my job.
- My wife has a defined benefit pension plan – which im having trouble figuring out how to incorporate into our calculations. Don’t know the commuted value, etc.
- We own a 2012 Mazda 3 – the value is about $6000 now. No other major assets.
- We each have about ~$35,000 in contribution room in our RRSP and about ~$60,000 in contribution room in our TFSA
- We have $3000 in an RESP for our daughter. 80eq20fi based on a couch potato model.
- Part of my net income is a side hustle, it generates about $20,000/yr
Basically we are starting our FI journey now. We’re a blank slate!! We are looking for the fastest way forward. We are both minimalists and are used to living with a high savings rate. We’re looking for direction on whose’s tax shelters to prioritize (especially considering I have a sole proprietorship), how to factor in a defined benefit pension plan, and any general thoughts on the fastest way forward. We’d like to be retired by 42 (so I can have a year retired with my daughter before she’s a teenager!).
Would love to hear your thoughts! Thank you 🙂
The Budget Beards
So first of all, CONGRATS on paying off that student debt. $73k ain’t nothing to sneeze at, so you should be incredibly proud of that! The fact that you’re both in the medical profession with no student debt should give you a leg up on your journey to FIRE. Unfortunately, you do live in Vancouver, which is a high-cost city, but on the plus side you haven’t blown up your finances by buying an overpriced house, so that’s cause for a considerable amount of optimism.
But you know what they say, feelings are useless (or at least, that’s what FIRECracker says). So to see how you’re doing, it’s time to…MATH SHIT UP!
Time To Math Shit Up!
OK so what are BudgetBeard’s top-line numbers?
|Spending||$4000 per month, $48,000 per year|
|Assets||$28,000 in a RPP (Pension)|
We’re not going to include the RESP since that’s earmarked for their kids’ education rather than their own retirement.
So we have a pretty high earning family, with average to slightly-above-average spending. Not too bad, considering where they live. But on the plus side, all debts have been eliminated which is a huge burden off their monthly spending, so that’s great.
$48,000 of annual spending would suggest an FI target of, as per the 4% rule, $48,000 x 25 = $1,200,000. That’s a pretty hefty lift.
On the other hand, their savings rate is pretty good. If their spending is $48,000, that means they should be able to save $115,000 – $48,000 = $67,000 a year. That’s a savings rate of $67,000 / $115,000 = 58% after-tax! Based on that number alone, we can expect BudgetBeard’s family to be able to hit FI somewhere around the 10-15 year mark. Our reader said they wanted to spend a year retired with his daughter before they become a teenager. Good call. I hear teenagers are the absolute WORST!
Anyway, so that would put our target retirement date at about 12 years, since the kid is only 5 months old now. Does BudgetBear make it? Let’s see…
12 years! But juust barely. Arguably they’re a little short at the end of 12 years, but this analysis is operating on the really conservative assumption of no raises over inflation during this entire time, and a 6% ROI over 10+ years. We know that historically, stock markets have appreciated a median of 11% over 10 year periods, so there are plenty of ways this could go a lot faster than we project.
Now onto the questions about tax shelters. BudgetBeard has about $35,000 of unused RRSP room and $60,000 in contribution room to their TFSA and are wondering which one to prioritize. Generally, if you earn above the first federal tax bracket (in 2019 that’s $47,630), you should prioritize the RRSP first so you get more tax savings. Earnings below that you should put into your TFSA.
That being said, because both you and your wife have pension plans, your pension contributions will generally eat up most of your RRSP contribution room each year, so that might be more of a limiting factor that the tax bracket. Basically, use up as much of your contribution room as you can such that anything you earn over the first tax bracket gets shoved into the RRSP. For example, if you earned $55,000, you would contribute $55,000 – $47,630 = $7370 into your RRSP. Everything else goes into the TFSA.
As for how to include your wife’s pension in your calculation, that can be a bit tricky. What you’re looking for is the commuted value or present value of the pension, but not all pension plans report that in their statements. Typically, they report what it would pay you each month if you were to retire at 65, but for early retirees that’s not as relevant. You have to ask the pension administrators to do an actuarial analysis and calculate your CV, and even that’s not a sure thing.
FIRECracker was in this situation where she had a DB pension but she couldn’t figure out what the CV was. And she didn’t want to ask because the only reason you’d want to know the CV of your pension is if you’re planning on leaving, and she didn’t want to telegraph her intentions to her company. So as a result, we never actually figured out what that amount was until she actually left, at which point we were able to get the CV of the pension transferred out into a LIRA. Essentially, we didn’t include that amount as part of our FI calculation and then when we got it we treated it as a pleasant surprise.
SIDEFIRE To The Rescue
So we’re sitting pretty at retirement in about 12-13 years, which is right where we want it to be. If our family stays the course and doesn’t blow up their expenses by buying a stupidly overpriced house in the Vancouver area, they should be fine. But is there anything we can do to make this go faster?
Turns out, yes!
As we write about on this blog (and go into detail in the book), a side hustle can have a pretty dramatic impact on your retirement. This is because every dollar you make in a side hustle that you continue in retirement takes $25 off your target FI number, so even a modest side hustle income of $5000 a year can reduce your FI target by $5000 x 25 = $125,000!
The problem is that it takes time for side hustles to get off the ground and start making money, but in this case BudgetBeard already has a side hustle going making $20,000 a year! Assuming him and his wife are willing to keep doing this side hustle in retirement, let’s see what this does to the numbers.
First of all, his monthly spending in retirement gets reduced by the side hustle income, so his annual spending becomes $48,000 – $20,000 = $28,000. This is how much the portfolio needs to support.
Second, this lower spending target also lowers his FI number. Where as before it was $1,200,000, their new FI number is $28,000 x 25 = $700,000.
And according to our projection, how long would it take to get there?
Just 8 years! Awesome!
So as it turns out because BudgetBeard had the wisdom to quickly pay off his student loans and keep his family spending from spiralling out of control due to the crazy Vancouver housing market, and the foresight to start building a side hustle NOW, he’s actually only 8 years away from retirement!
Looks like he might be spending a lot more time with his daughter in retirement than he thought.
What do you think? Do you think BudgetBeard’s plan is solid, or do you see a problem that I don’t? Let’s hear it in the comments below!
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