So you might have heard of FIRE (“Financial Independence/Retire Early”). You might well have read a blog or two about it as they’re pretty ubiquitous. But how do you get started and are there any unique aspects of financial independence in Canada?
What Is Financial Independence Really?
I honestly don’t think FIRE is limited to a 30-year old sitting in Tulum sipping kombucha and listening to lo-fi beats. Nor do I believe FIRE means you stop working. It merely means you have the means to choose a little bit more how your life is designed. And the key here is that you’re designing your life, rather than letting the finances dictate how you live.
Nor does FIRE have to be the extreme “scrimp and save” and evaluate every single purchase in minute detail process that’s preached by many. Again, lifestyle design and engineering your finances come into play in setting goals.
To that end, I prefer to refer to “financial independence” alone rather than add “retire early”.
Identifying What You Want From Financial Independence
A lot of us automatically, and somewhat flippantly, answer that we’d like to be sitting on a beach somewhere warm if/when we have the money to do so. While that sounds great, it’s likely only what most people want in the short term. Instead, focus on the sustainable desire. In my case, my FIRE goal was:
- To be able to travel more. Having the time to do this by being financially independent is invaluable.
- To have our base monthly expenses covered without working. My wife still works to give us a better standard of living, but we have our bills paid come what may.
Estimating What You Need For Financial Independance
This part is hard. How much do I need to do what I want to do? Unfortunately, you need to break out some spreadsheet skills here. There’s one in my free toolkit to help you get started.
Some other things to consider when estimating:
- Don’t forget about inflation. Just because you only need $200 a month to pay your utility bills this year doesn’t mean it’ll be like that in 10-years. In fact, it’s likely to be anywhere from 40-50% to even 100% more expensive.
- Don’t forget that we live a long time now. You should be building your forecast until at least your mid-80s and possibly even longer. Just like you would with a retirement plan, because that’s exactly what this is.
- If your dream is to sit on a beach somewhere abroad, try and accommodate a “fudge factor” for foreign exchange rates. This is obviously hard as none of us are clairvoyant, but you can still build in a bit of a monthly buffer amount.
- Read my post about “how much do I need“. Traditional retirement methods like the “4% rule” don’t necessarily support early financial independence. This is another area dividend income can score in for Canadians.
Engineering Your Finances for Financial Independence
When people ask me about how to engineer their finances for FIRE, I generally respond that I like to see both them building both passive and active income.
Passive income might be in the form of dividends from stocks or interest from bonds.
Active income might be from rent payments from real estate (I don’t prescribe to the group of people who list real estate investing as passive income — in my experience it’s something you need to be very actively involved in to avoid pitfalls).
The other question is just how much of your income you can justify saving. Extremists might save in excess of 70% of their income, but that might not be practical for those of us with families as an example. One way to address this is to start with your estimate above and see how long it would take you to achieve that goal with different percentages of savings.
Canadian financial independence/retire early doesn’t have to be sipping kombucha in Tulum, and it can be achievable. In part 2 we’ll dive deeper into an example of a plan.
What Are Financial Independence Strategies for Canada?
Dividend Tax Credit
One thing I encourage Canadians to look at with financial independence is building passive income with Canadian Eligible Dividends purely because, if that’s your only source of income, you can earn $50k per year almost tax-free (in fact, totally tax-free in some provinces).
If you also embody minimalism and reduce spending, the above income might be all you need to live your best life.
I also recommend that Canadians look beyond their own stock market to secure better returns. In recent history, the U.S. markets have outperformed the Canadian ones. You have some currency exposure to worry about, but that can be addressed through hedging or even by living in a place where U.S. dollars are a benefit to you.
RRSPs and TFSAs for Your Financial Independence Retire Early Strategy
Finally, don’t forget that both your RRSP and TFSA can be used for building a financial independence portfolio! We tend to forget that RRSPs do not have age limits for withdrawals and are a good vehicle to tax shelter your portfolio whilst building it. TFSAs are also great for building your initial portfolio as they can offer better tax advantages, albeit at the expense of lower contribution room for most of us.