Thursday, May 7, 2015

Spending on Luxuries The FIRE Way

Leave the boring retirement topic behind for now. Life is meant to be enjoyed and we should live it to the fullest. Why save so much in our early days and live a miserable life only to find that we still do not have enough money for retirement?

Yes, it is happening even in Singapore. People who scrim and saved in the past still do not have enough for retirement. This somehow prompted young people to spend all their money since they see that even if they save money, they would still not have much money anyway.

You see, the problem above can be explained mathematically. If you earn $2000/month and save $1000, will you have a lot of money? You may be saving 50% of your salary which is a very good thing but if we take the $1000/month savings and fast forward it to 30 years later, it is only $360K. Does it seem like a lot of money to you? It sure doesn't seem like a lot to me 30 years from today.

Therefore, even if we save 50% of our income but have a low income, its not going to make a lot of difference. However, this can be solved by a simple solution. Before we go into the solution, let's understand a new term which I came across recently called FIRE.


What is FIRE?

FIRE in its full form is know as "Financial Independence, Retire Early (FIRE)". It is a concept which has been discussed and expanded on by some financial bloggers in the west.

Gaining financial independence and retiring early cannot be done through savings alone if our income is too low. We can enjoy some luxuries and still gain financial independence and retire early. How do we do it?

You can spend on Luxuries the FIRE way

How do we reach FIRE status and still enjoy luxuries? This can be explained using a simple mathematical illustration. Let's go back to the example of saving $1000 with a $2000 salary. In this case, we only have $1000 to spend per month and still end up with only $360K savings 30 years later.

If we increase our income to $4000/month and save the same 50%, we would be able to save $2000 and end up with $720K 30 years later. It doesn't end here, the good news is we can spend $2000/month now instead of the $1000/month previously and still have more money 30 years later.

If you did not manage to understand how the above mathematical illustration works, read it again. I'm going to expand on a deeper concept below but you must first understand the concept above. Once you're ready, let's continue.

Spending on Luxuries and still save 100% of income

The road to financial independence or freedom is not about living a poor man's life now so you can be a rich man later. Yes, saving money is important but the truth is we can't save much from scrimping on the little things. What we need to do is to focus on increasing our income but at the same time make sure we do not overspend above and beyond our means.

Many years back while I was still a student, I came across a concept which said "if you want to enjoy luxuries, create the income for it". This income should not come from our main employment but from secondary sources (aka passive income). For example if we want a car and the monthly cost we have to pay for it is $1000/month for a certain number of years, we should create a secondary source of income to fund it. That's not all. Once the secondary source of income is created, it can be permanent and even after fully paying for the car, we still have that source income coming in every month. Now we got the car AND the extra income.

That was such a powerful concept that it stuck with me to this day. Now the question is, how do we create the secondary source of income?

There are a few ways to do it:

1. Create secondary income through properties

Investing in properties and renting out is one of the most common ways to create a secondary source of income. Many people in the world do that. The best thing about investing in properties and renting out is your tenants pay for the property and at the end, the property belongs to you. Not only do you get rental cash flow every month, you own the asset too.

However, the problem with investing in properties in Singapore is the high cost involved. Buying a private property cost more than $600K to $1 Million dollars. With a 20% down payment rule, this would set us up to more than $100K in upfront capital. This would not be easy for young people who just started out in their careers but is definitely a consideration when we have more money.

2. Create secondary income through stocks

Investing in stocks will give us a secondary income stream through dividends. REITS can be one popular way to get passive income. A REIT, also known as a real estate investment trust, has a portfolio of properties which they rent out to collect income. Buying a share of the REIT makes you a shareholder of the many properties that it has. For example, if you buy the shares of Capitamall (renamed capitalandmall) or Suntec, then you actually become a shareholder and own part of the shopping malls you see at City Hall, Tampines, Jurong, Woodlands and many other parts of Singapore. Some of these Reits have properties in other parts of the world too.

The rental collected is distributed to all the many other shareholders and each will receive a portion of the income according to the number of shares they own. Reits listed in Singapore typically pay a range of 5-8% in dividends. If dividend remains constant, the lower the price you buy a share of the Reit for, the higher the expected dividend yield will be. The best thing is you don't have to manage the property to get the rental. The Reit manages it for you.

Besides REITS, we can also consider stocks of other companies to invest. You can read the below 2 articles on stocks investing:

How to pick stocks (Part 1) - Economic Moats
Buying the company on the streets (Part 1) - Discovery stage

3. Create secondary income through your talents

Finally, we can create secondary income source through our talents. I always believe that everything we do, even if its just a hobby, can be turned into a potential income source. Do you like craft making? Maybe you can make some of your own products to sell. There are just so many other possibilities which we can explore on. Think about what you are good at and think about how you can create value for someone out there through it.

One thing to note is don't focus on making money first. Focus on adding value or providing good service in whatever you want to do. As a result of adding value, the money will come later.

The End Result

Let's go back to the example of the $4000/month income. After saving $2000, this leaves us with $2000 to spend. If we manage to create an additional secondary income source of $4000, we now have $6000 to spend and still have $720K at the end of 30 years. In the end, we may not even spend all the passive income which would mean we can possibly retire with more than a million dollars without having to forgo all luxuries.

Its time to take action if we want a better future.

Epilogue - Do you really love luxuries?

Last year September, I wrote a post specifically on luxuries. I shared my experience of luxuries and also said the following:

"You see, luxuries can be a drug. It is addictive and there will be problems when over consumed. Remember the first time when you took a sip of good coffee? What was the feeling like? You do feel a boost and feel more awake as what coffee will make out of us. But those who drink too much coffee will always say that coffee doesn't have an effect on them any more. They are numbed to the effect of it. Similarly, if luxuries are consumed on a daily basis, it loses its effect which is suppose to make us feel good.

When luxuries loses its effect, you'll never be satisfied or happy no matter how much you have. It then becomes an addiction to seek even more luxuries where people are willing to borrow money to indulge in it. Over borrowing for a car or a condominium more than what you can afford are signs of over dependence on luxuries to make you feel happy. Some even borrow to travel luxuriously, borrow to buy branded goods. The list goes on." 

You can read the full post here and find out what luxury I experienced: Your Perspective of Luxury and an Experience. Now, do you really love luxuries?

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Related Posts:
1. The Two Approaches to Making Money
2. Readers' Challenge - Increasing Your Active and Passive Income

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