Why Your #1 Goal Should be Financial Freedom

None of us are getting any younger. Sooner or later, you will want to work less and enjoy life a little more. Eventually, you will retire altogether. When that time comes, you will need a monthly income to live on. This is inevitable for all of us.

For years, financial experts have suggested aiming toward a cash savings of $1M to cover the cost of living in retirement. Now, some are recommending saving $3M or 10 times your salary. Even retirement calculators online recommend a certain amount of cash savings for a reasonable monthly income at retirement. Needless to say, there are a few problems associated with the cash-savings approach to financial security in retirement. 

To begin with, the cash-savings model is contingent on hidden assumptions. Another glaring problem is that the recommended target amount appears unattainable for most people, as most of us don’t start saving money until later in life. Finally, it is hard to track one’s progress toward such a lofty goal, since it is assumed your savings will come from different sources. 

Let’s start with the underlying assumptions of the retirement savings-target strategy. One of the biggest problems with this approach is that it assumes that your retirement income will come from three sources: employer sponsored retirement plan (excluding 401k), Social Security, and cash savings (including IRA, 401k, etc.). However, the number of non-401k employer-sponsored retirement plans has been on the decline for the last 30 years. These mostly extinct plans have a predetermined pension based on average salary and years of service for that company. 

An example of such retirement would be 2.5% of final salary multiplied by the number of years of service. So if your salary at retirement was $60k and you worked 20 years for the company then your annual retirement would be $30,000 per year.

Most traditional pension plans have been turned into far less beneficial 401K plans, which shift the financial risk from the employer to the employee, most of whom are clueless about the costs associated with these plans. The remaining pension plans are limited to government employees or union workers, who were able to negotiate such plans with their large employer. If you don’t have a pension plan you are missing one of the 3 assumed retirement income sources, so you will need to fill the gap with personal savings and investments to meet the recommended savings goal.

The cash-savings strategy also assumes that we will need less income at retirement because we will no longer have the costs associated with work, such as travel, clothing, meals out, etc. Making these assumptions is unrealistic, as the truth is our cost of living will more than likely be the same, especially because most of us will expect to maintain the same lifestyle at retirement. A retirement strategy that relies on needing less money merely sets us up for failure.

One of the biggest assumptions financial experts make is regarding how you will convert your savings into a stream of income. Will you invest in the stock market, and sell out shares to pay yourself? How will the stock market perform? What will happen if there is a correction? Will you invest in dividend stocks or setup a CD ladder? Will you convert your savings to an annuity with survivorship, indexed or not? What is the interest rate at the time of conversion? How you will convert your savings into a stream of income is critical, yet most people leave these questions unanswered until they are about to retire, which limits their options significantly.

In the end, financial advice that recommends a huge savings goal leaves most people overwhelmed, especially given the median retirement savings of workers aged 50 to 55 is $8,000 according to the Economic Policy Institute. Imagine being 55 with $8,000 in retirement savings and being told that you need to save $1M in the next 10 years in order to retire. How would you feel?

I propose a more practical and tangible approach to planning for retirement, which is to calculate a monthly passive-income goal and achieve this goal through real estate investments. (By passive income I mean regular monthly income generated from investments, such as house or apartment rentals. It is passive because the day-to-day management of the rental units can be handled by a third party property management company.) Unlike the lofty one or two million dollars savings goal, a monthly passive-income target is more tangible. You can easily take concrete steps to reach this goal, and see income being deposited in your bank account every month. There are no hidden assumptions with this strategy because your investment is immediately converted to cash flow. There are certainly many different ways to generate passive income, but I will use the example of investing in rental properties, which brings you positive cash flow, tax benefits, and appreciation that can further accelerate the growth of your passive-income portfolio.

In the next article we will calculate your monthly passive income target and I will show you how you can achieve your #1 Goal which Financial Freedom.