American Madness

Intelligent Criticism in the Service of a Better Nation




The math behind “financial freedom”

Posted by Josh Friedlander | 1 Comment

My favorite money blog is MyMoneyBlog.com (yes. yes it is). The site’s anonymous author is more useful than any other financial columnist, because he actually delves into specifics and does the math to help readers pick the best savings account, mortgage, credit card, etc. His analysis is real and complete and insightful. Today, he posts about the elusive goal of financial freedom.

His is an obvious point, but if you want to save enough so that you won’t require external income (usually gotten by that awful thing we call working) you’ll need to actual compute current expenses and figure out how much return you can expect to achieve on your nest egg.

It’s a good exercise because it focuses on the mind and will probably help you make more conservative spending decisions. That is, if saving enough to retire is a goal of yours. I think curtailing your life when you’re young so that you can do nothing when you’re older is a dubious goal, but most people think of little else, especially in the early part of the week. I am guilty of this as well.

Some of the author’s analysis:

What Is A Good Financial Freedom Ratio?
To find this, I went to the Vanguard Annuity website and looked up a price quote for their inflation-adjusted fixed immediate annuity (Lifetime income option, fixed payment, bottom right). This means that, if I give Vanguard a lump sum of money, they will give me a regular income that is adjusted every year for inflation per the CPI-U. (Annuities are subject to the claims-paying ability of the issuing insurance company, which is AIG Insurance.)

I input that I was 30 years old and wanted an inflation-adjusted $30,000 a year ($2,500 a month) for the rest of my life. The quote was $857,000. So a lifetime of my required income requires an FFR of 28.6 ($857,000/$30,000). As you get older, the number decreases.

Comments

One Response to “The math behind “financial freedom””

  1. Paul Woodland
    April 22nd, 2008 @

    Will you please post some damn pictures. Nobody reads anymore. It’s so last century.

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