The rate at which you are able to save your money (your Savings Rate) will determine how long it will take you to reach the traditional calculation of Financial Independence (FI). The more you are able to save, as a percentage of your take home pay, the quicker you can reach FI. Oh, and by the way, saving 20% is going to be no way near enough…

What should my Savings Rate be?

We’ve all been told that if you diligently save 20% of your income you are doing well and are on track to reach the land of milk and honey with plenty of money in the bank for your golden years. This is probably true, but working as a corporate slave for 30 years out of university does not seem that appealing (at least to the MMG), even if you love your job.

To reach FI, and to reach it quickly, everything comes down to the Savings Rate. The reason for this is that the magic of compounding doesn’t really have much of an effect in the first years of saving (unless you are starting with a sizeable pile of cash to begin with). Therefore getting that pot as big as possible is key, and the way to do that is to save more. Much more!

Savings rates need to be in the region of 60% – 80% to warp speed to Financial Independence. At an 80% savings rate, you can possibly reach FI in as little as 5.5 years. But why is this?

It comes down to two things. Saving more increases your pot of gold and by being able to live on less (as you are saving more) the size of your pot of gold needed to reach FI is much, much less. Take a look at this really simple example:

Cuckoo currently earns $100,000 after tax and saves 20% ($20,000). Cuckoo therefore needs a yearly income of $80,000 to maintain her current lifestyle. Traditional FI is reached when you have a pot of gold worth (25 x annual spending) = 25 x $80,000 = $2m.

If Cuckoo increases her savings rate to 40% ($40,000), her FI number becomes $1.5m. At 60% savings its $1m, and at 80% saving its a mere $500k.

Increasing your savings rate gets you to FI more quickly

Take a look at Mister Money Moustache’s (the godfather of the FI/RE movement) excellent post here for more on the numbers.

Is an 80% Savings Rate even possible?

The short answer is yes, absolutely. But of course anything is technically possible.

People who are really invested in the FI/RE movement and who’s key goal is to retire early and stop work altogether as quickly as possible do (arguably) extreme things to achieve that sort of Savings Rate – e.g. living from camper vans, moving back in with parents, moving to remote areas of the country they live in where living costs are much cheaper. Its much easier and achievable to save 60% -70% (instead of 80%) which on average would allow you to achieve FI in about 10 years.

Earning more doesn’t necessarily correlate with a high Savings Rate, in fact due to continual lifestyle inflation, many high earners struggle to even save 20%. Keeping a lid on lifestyle inflation, banking all of your pay rises and money from your side hustles will all help.

So before the magic of compound interest kicks in, raising your Savings Rate is the most important thing you can do. If your job doesn’t pay well, do what you can to earn more, don’t fall into the lifestyle inflation trap and reach your goals in record time!

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