The Most Compelling Personal Finance Argument I Have Ever Seen

19 02 2010

The fundamentals of personal finance are pretty simple: spend less than you earn, save the rest, invest in low-cost index funds, and always consider the costs vs. benefits of your actions. A while back, Jacob at Early Retirement Extreme put a fresh spin on the consequences of “spend less than you earn and save the rest” that I found irresistibly compelling.

If you live off of X% of your take-home pay while saving the rest, you can take (100-X)/X years off of work. Ignore the algebra for now and take a look at some examples below.

More practically:

If you live off of X% of your income for one year while banking the rest
You can take X full years off from work (assuming your expenses are constant – more on this later)
75% 1/3
50% 1
33% 2
25% 3
10% 9

It’s rare that I’m taken with such a blinding vision of the obvious, but this presentation of such a simple algebraic rule struck a chord with me. We were two young professionals with minimal expenses and working high-paying jobs. We had inadvertently found ourselves living in a pretty attractive row of the above table, and the consequences of that reality were staring us in the face. If we stuck with our jobs for a couple of years while keeping the income effect at bay, we would have more than enough time off to both enjoy ourselves and figure out how to earn a decent living in a way that fit best for us.

Are you as taken as I was (and am) with the simple table above? Then let its message start guiding your actions. Take a hard look at your finances, put together a budget worksheet, and save with an immediate purpose – not having to work. That is the ultimate financial freedom and for me defines working to live.

posted by jayhorowitz

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3 responses

21 02 2010
Greg London

The goal of not having to work some day, is an excellent goal to have. I’m definitely putting all the money I can into investments so I can retire with no problems.

22 02 2010
Dreamer

Good article. But, one of the problems of taking a sabatical/time out from the rat race is that it can often be very difficult if not impossible to return to the professional job arena. It depends on one’s line of work I suppose. I’m in law and in my line of work employers view time out as “slacking”, oh unless of course you are taking time off for kids:). Therefore not only do you have to save x % of your earnings, you will also need to invest it to obtain an income, alternatively/additionally, you need enough money to exit for good, and thats a long haul.

Personally, taking just a few years out wasnt good enough for me, the problem is that if you have a limited pot of money you just end up back in “the system” after the few years. The real challenge is to get creative about making sustainable life changes that enable one to escape the rat race permanently.

22 02 2010
jayhorowitz

@Dreamer – I completely agree with you, but disagree that going back to the rat race is most people’s goal. As I wrote in the post,

“If we stuck with our jobs for a couple of years while keeping the income effect at bay, we would have more than enough time off to both enjoy ourselves and figure out how to earn a decent living in a way that fit best for us.”

For me, it’s about both ‘sustainable life changes’ as you wrote, but also about self-employment and permanent escape. My goal over the next few years is not just to decompress from the corporate life, but also to try my hand in the start-up world. I was privileged and hard-working enough to make this time work out and I’m convinced that I can make more than enough money working for myself to keep this going indefinitely. I bet you could too.

@Greg – Thanks for stopping by, and good luck with your journey! Do you have a blog?

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