How to Calculate your Financial Independence (FI) Ratio

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How to Calculate your Financial Independence Ratio

When you have a goal, it is always good to know your progress towards this goal. If you are trying to become Financially Independent, it will be important for you to know how far away you are from your goal! For this, you will need to know your Financial Independence (FI) Ratio. This ratio will tell you how close, or how far, you are from reaching your goal.

If your goal is to become FI, you will have a certain amount of net worth that you will have to reach before you can become FI. This is your FI number. Once your net worth equals your FI Number, you are financially free. That is the main idea.

Your FI ratio will tell you exactly where you are on your path to Financial Independence. In this post, we are going to see exactly how to compute your goal and then how to compute your progress towards the goal. This could help you a lot to see if you need to adjust your strategy to reach your goal on time.

Stay tuned if you want to know when you are going to be financially free!

Financial Independence

First, what is Financial Independence (FI)?

Financial Independence means you do not need to work to sustain your lifestyle. It is also sometimes called Financial Freedom. You are financially independent when you have enough money to sustain your lifestyle without working.

For this, your wealth must generate income. And this income must be greater than your expenses. The main way to generate income from your wealth is simply to withdraw from it. However, you need to withdraw little enough to sustain your wealth for the longest time.

This is only one of the ways to reach Financial Independence. But this is the most standard way. Some people prefer to focus on passive income. And some people focus entirely on real estate to become financially independent.

There are many reasons to become Financially Independent. It is currently very popular on the internet. Especially with the Financial Independence and Retire Early (FIRE) philosophy. The idea is to become Financially Independent as soon as possible and retire early. But you can also be Financially Independent and not retire. You can then choose to do exactly what you want with your life since it does not depend on your career income anymore.

First, we will assume you are following the withdrawing idea of Financial Independence. But I will also talk about the FI ratio in the concept of fully passive income.

Your Withdrawal Rate

If you want to become financially independent by having a large enough net worth to sustain your expenses, you may have heard of the 4% rule. It states that if you only withdraw 4% of your investment portfolio every year, it should sustain you for at least 30 years. This percentage is your Withdrawal Rate (WR) or Safe Withdrawal Rate (SWR).

These rules assume that you invest your portfolio in the stock market. Generally, the rule assumes 75% stocks and 25% bonds. But the asset allocation is up to you. 4% is the recommended SWR. But some people choose to be more conservative (<4%) or more aggressive (>4%). I am a bit more conservative, so my SWR is 3.5%.

You need to keep in mind that the original 4% rule is based on 30 years of retirement. If you retire extra early and plan for 50 years of retirement, it may not work in the same way. For this, you may have to reduce your SWR.

Your Financial Independence Number

Now I got my SWR, how much do I need to be FI?

In fact, it is pretty easy. By dividing 100 by your SWR, you will have the number of years of expense you should save. For instance, for my SWR of 3.5%, I have to accumulate 28 years of my annual expenses.

If you think your expenses are going to go up or down in the future, you should also account for that. Indeed, you should use the number of expenses you plan for FI. However, this is difficult to estimate. If your retirement is in a long time, you may take your current annual expenses as a good estimation. This is what I am doing. Every year, I am updating my FI Number to reflect our current situation.

So, your target net worth (your FI number) is 100/SWR times your planned annual expenses. If you have yearly spending of 100’000 USD and SWR of 4%, you need to accumulate 2.5 million dollars to become Financially Independence. If you spend 50’000 USD per year and plan to withdraw 3.5% every year, you will need to accumulate 1.4 million dollars.

This target net worth is also called the Financial Independence Number or FI Number. I wrote an entire article to help you calculate your FI Number.

Your FI Ratio

Finally, how do I get my FI ratio?

You now have your target net worth or your FI number. That is the net worth at which you will reach Financial Independence.  As soon as your net worth is higher than this number, you are financially independent!

For this, you will need to know your current net worth. If you need, you can see how I calculate my net worth. Basically, this is the value of all your assets together. But you need to be careful about some assets that can depreciate or are difficult to sell.

Your FI ratio is simply your current net worth divided by your target net worth. It could not be simpler! If you have a target of 1 million CHF and you have 100’000 CHF, your FI ratio is 10%. Or if you have a target net worth of 1.4 million USD and have 200’0000 USD, your FI ratio is 14.28%. As soon as it reaches 100%, you are financially free!

My Financial Independence Ratio

As an example, let’s see how is my situation at the current time. I have calculated the results for my goal.  I’ve also calculated how many years it will take me to get there at the current pace. Here are my results:

Withdrawal rate3.5%
Annual Return5.0%
Years of expense28
Running expenses67’125 CHF
Monthly expenses5’593 CHF
Target Net Worth1’879’502 CHF
Current Net Worth1’879’502 CHF
Missing Net Worth180’022 CHF
Yearly income112’200 CHF
Running Savings Rate44.90%
Yearly savings50,388.89 CHF
FI Ratio10.59%
Months to FI214
Years to FI17.8
Date to FI37.28%
Current Withdrawal Rate39.7%
Months of FI37.2%
Years of FI2.6

I have computed my expenses over the last 12 months (not counting this month). This gives me about 1.9 million CHF to save. Given my current Net Worth, I am missing about 1.7 million CHF. If you compute the ratio of your net worth and the target net worth, it gives you your FI ratio. Mine is a meager 10.59%.

You can also calculate an estimate of how many years you need to save this amount. I have calculated my savings rate as the average of these twelve months. I am making the assumption of a 5% annual rate of return, which is conservative. This gives me almost 18 years until I reach FI.

This is not so bad since this will be before I am 50. Not considering any return on the investment portfolio, it will take me 150 years to reach my goal. I will be long dead! The difference between these two numbers shows the power of compounding!

Improvements for the calculation

My calculations are not entirely correct. First, I am still working on increasing our savings rate. My current income is also higher than it was on most of the twelve last months. Finally, I am also working on improving my expenses. The last twelve months include some pretty bad months.

Another thing that is important is that your expenses in retirement will likely be different than from now. For instance, you will pay fewer taxes in retirement than what you pay now. But it is quite likely that your health expenses will go up. It is difficult to compute correctly the expenses you will have to pay in retirement.

There is another thing that is not taken into account.  The second pillar and the third pillar can only be taken out at the retirement age. For now, I am including them in my net worth. But they will only be used once I reach the official retirement age.

Also, the first pillar will give you a retirement pension. If you want a really accurate calculation, you will have to integrate many more factors. This means that from retirement age, some of your expenses will be covered by the first pillar.

Improving your FI Ratio

Of course, now that you have this metric it is important to learn how to improve it. You may want to become financially free faster than the current predictions.

Of course, you can increase your net worth to increase your FI ratio. But it is not trivial to improve it. And this is not something that will happen in one day. Unless you play into the terrible odds of the lottery.

The first thing you should to do to improve your FI ratio by reducing your FI Number. For this, you have to reduce your expenses. All your yearly expenses get multiplied by 100/SWR. If you plan on using the 4%, all your expenses are multiplied by 25. If you can cut your expenses by 1000 USD per year, this is 25’000 USD that you do not have to save!

The second thing you can do to speed up your FI ratio by improving your income. Increasing your income will not directly increase it. But it will increase faster over the years. Of course, this is only true if you do increase your expenses. Do not fall into the trap of Lifestyle Creep.

Another thing you can do to increase your FI Ratio is to use a larger SWR. Now, this is dangerous. The higher your SWR, the more risks you take that your net worth will be depleted in case of a large downturn. But this would decrease significantly your FI number and hence increase your FI ratio. I would not do that unless I were really aware of the risks.

Finally, by increasing your returns on your capital, you will also be able to speed up your FI Ratio. To increase your returns, you generally can take on more risks. Once again, this is dangerous. And it is not easy to get a guaranteed return on income. But this would greatly increase the speed at which your net worth increases.

If you follow some of these ways, you will become Financial Independence faster!

Notes

Keep in mind that all these numbers are only estimates. Your expenses could go up, your salary could change, the stock market could crash, … Your Financial Independence ratio and the estimated number of years left are useful numbers. But they are not definite. For instance, I plan to have kids, this will definitely increase my expenses. I will also change jobs in June, increasing my income. This should not prevent you to calculate your FI ratio. You should just update your FI number at least once a year instead of using a fixed number for too long.

Another thing you should keep in mind is that the SWR rule has been created for the US market. You may have to adapt it to your country. And, if you plan to retire really early (in your thirties for instance), this rule will not cover you long enough. So take everything like this with a grain of salt. Every situation is different. If you want to read more (much more) about SWR, you can read the Ultimate Guide to SWR, by Early Retirement Now. It is really good.

The Passive FI Ratio

Now, what we have seen is the definition of Financial Independence that I personally use. But there is another definition of the FI Ratio used by some people.

Some people do not want to withdraw from their principal in retirement. That means they will focus on passive income. This can be income from their principal such as dividends or interests from a bank account. For some people, this can also be income from a blog. However, that last one is not really passive!

For these people, we can compute a Passive FI Ratio. This is simply the ratio between your passive income and your current annual expenses. For instance, if you have a passive income of 10’000 CHF and annual expenses of 40’000 CHF, your current Passive FI Ratio is 25%.

I do not focus much on passive income. But I think this ratio is quite interesting. It is not necessary to aim for a Passive FI Ratio of 100%. In fact, both ratios can play together. If you have a Passive FI Ratio of about 50%, this can reduce your FI Number consequently since you will need a smaller net worth. If you can get a guaranteed income of 1000 CHF per month in retirement, this will greatly reduce your yearly expenses!

For instance, one of the bloggers using this definition of Passive FI Ratio is Joe Udo at retireby40. He focuses a lot on his passive income.

Conclusion

Your Financial Independence (FI) Ratio will tell you exactly where you are on your road to FI. It is a simple metrics that can help you track your progress. However, this is not the most important of the FI metrics.

Even though it may not be extremely important, it is an interesting metric to follow. It will give you an overall idea of where you are in your quest for financial independence. If you graph it against time, you will also see if you are going faster over time or not.

In the future, I am going to try to follow the evolution of my FI Ratio. But for now, I will not pay too much attention to it. I will focus on decreasing my expenses and increasing my savings rate. I am not really worried about the rather large number of estimated years before retirement. Indeed, I am just getting started with my budget overhaul. And I know I can reduce my spending and increase my income. This will help me reach FI faster.

If you liked this FI Ratio Metric, read about More Personal Finance Metrics.

By the way, you do not have to do the math yourselves, there are plenty of Financial Independence calculators online, like this one.

What is your Financial Independence (FI) Ratio? What do you think of this metric?

Mr. The Poor Swiss

Mr. The Poor Swiss is the author behind thepoorswiss.com. In 2017, he realized that he was falling into the trap of lifestyle inflation. He decided to cut on his expenses and increase his income. This blog is relating his story and findings. In 2019, he is saving more than 50% of his income. He made it a goal to reach Financial Independence. You can send Mr. The Poor Swiss a message here.

18 thoughts on “How to Calculate your Financial Independence (FI) Ratio”

  1. Hello Swiss! I wish I could change your domain name to “therichswiss” because I don’t like calling you “poor” lol!

    Based on your net worth, you are in great and healthy shape! And honestly, anything in life can happen. Nothing is certain!

    Like you, my fiance and I are focusing on savings rate, decreasing expenses, and increasing income. I think as long as you keep your mind focused on those areas, the net worth will gradually build over the years without you noticing. After all, this is a marathon and not a race! Not to mention, that number can drastically fall at any time especially when markets head south.

    Overall, this is a great post about what the FI ratio is. I personally didn’t look at my FI ratio because it feels like there’s still a long way to go to reach freedom haha! But still, doing whatever we can to sustain current lifestyle without going broke or eroding the nest egg!

    1. Hello panda,

      Do not hesitate to call me poor :P

      It’s part of my strategy to make me believe that I’m poor in order to have healthier budget ;) Moreover, if you consider the *rich* in Switzerland, I’m more than poor, but that ‘s another story.

      As you say, the net worth number can significantly fall. I totally agree with you! Savings Rate, Expenses and Income are the most important numbers to focus on. Once these numbers are good, the rest will follow: The net worth will increase, the FI ratio will increase and the years to FI will decrease.

      The only number I really follow each month is my savings rate. I computed my FI ratio for fun. It is too early for me too to see the possible early retirement.

      P.S. Maybe I should already buy the therichswiss.com domain for when I’m satisfied enough of my results!

      1. ahhaha~~~ i am waiting to hear you from the therichswiss.com domain one day . I believe time can tranform you from thepoorswiss to therichswiss .

    1. Hello

      It’s net salary, what I receive in my bank account, it’s after deductions (such as retirement). But before taxes. It’s not too bad, even for Switzerland, but it’s low for Computer Science. Not everybody in Switzerland have big salaries. I know a lot of people who have less than 5K monthly salary. The media do so much in showing that Switzerland is so rich that everybody think that every Swiss is rich, but this is far from true.

      P.S. Sorry for the delay, it seems WordPress didn’t like your username :s

  2. First of all, I love the name of your blog, I once had a Swiss guy tell me that I’m the poorest person he’s ever met. He wasn’t kidding!

    I’ve never computed this calculation before but I’m going to give a try. Thanks for sharing.

  3. Thanks for the article!
    Frankly speaking, I am amazed by the math you put together…it sounds pretty sophisticated what you are calculating. On the other hand, your FI ratio, is just telling you how far you are away from having saved up the amount of money needed to reach full retirement.
    I am well on my way towards financial independence, but have never calculated my FI ratio, oops! Why not? Because I count more on covering ongoing cost from passive revenue streams. As soon as I can see that my monthly expenses are covered from the cash flows generated, I would feel comfortable of calling me FI. Makes sense?

    1. You’re welcome :)

      Yes, the FI ratio is a pretty simple thing, just the fraction of the target net worth.

      It makes total sense! If you are able to cover all your expenses with passive income, you’ll also have reached Financial Independence :) By the way, some bloggers compute a FI ratio as Passive Income over Expenses. This is just a different approach to FIRE that works pretty good as well. There is no one single solution to FIRE.

      Good luck on your way towards FI ;)

  4. hmmm. I am 65. I have $3,700,000. My annual expenses are about 100K per year. I use $70,000 since the rest comes from Social Security. I intend to only withdraw 2%. I have reverted to ultra conservative because of my age so I am only a bit over 30% invested in stocks. I will probably increase stock allocation as time marches on (gliding equity plan – increasing stock exposure as I increase with age). Now I estimate I – figure I have about 35 years left to live so if I take (70,000 x 35) I get that I need $2,450,000 (I use current dollars. I don’t count inflation because I figure my portfolio will be able to keep pace with inflation since most of the other 70% or so is invested in TIPS or other bonds). That leaves me with $1,250,000 I can invest in risk assets. According to your calculations I would need (100/2) * 70,000))a total of $3,500,000 which seems to be excessive since I calculate $2,450,000. Thoughts?

    1. Hi Mark,

      Wow, you are in a great spot!

      These two calculations are different.
      * The first one you did (70K*35) is exactly how much you need if your expenses don’t move and there is no inflation.
      * The second one (70K * (100/2)) is using the 2%. If you want to live of 70K and only withdraw 2% of your portfolio each, you would need 3.5M indeed.

      However, 2% withdrawal is extremely conservative. If you use a portfolio of 2.45M and used 70K per year, your withdrawal rate would be 2.85% which is still highly conservative! And when you consider that you still have 1.25M invested in more risky assets, your overall withdrawal rate would still be about 1.89%.

      I think you are more than safe to have your portfolio outlive you! If I were you, I would do the same, keep 2.5M in safe investments and invest 1.2M in more risky investments. But I would probably not take too many risks either.

      What do you plan for your 1.25M?

      Thanks for stopping by and good retirement!

      1. Thks Swiss for your reply. My actual plan for my 1.25M is most likely to leave as a legacy to my two children, haha luckily neither of them read financial blogs so they won’t be reading this 😂😂😂. I don’t want to tell them, although I am sure they are aware they will be getting something. Hehe I may use it as leverage if they throw us in an old folks home (joke) 😂😂

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