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Funding Your Freedom
Odds are, you'll be alone someday. Plan your financial future now, and you won't be living on soup when you're 70.
by Lewis J. Walker, CFP, CIMC, CRC
October 1, 2005
W
hat does "financial freedom" or "financial independence" mean to you? It may mean getting
out of debt, not living from paycheck to paycheck, and having sufficient savings and income to fund
the lifestyle that you have dreamed about. For women near retirement, it may mean the freedom to
live an independent, comfortable and active lifestyle, while never being a burden on anyone,
especially children or other family members.
A 2004
survey of employees and consumers conducted by MetLife showed that almost one-third (28 per-cent)
of full-time employees (and 37 percent of female employees) sometimes have trouble paying their
monthly bills. Four in 10 (42 percent) live paycheck-to-paycheck (an improvement from 52 percent in
2003). Among women, 51 percent of full-time employees live from check to check; and 70 percent of
widows who work full-time live paycheck-to-paycheck.
Unless you win the lottery or come into a sizeable inheritance, how you achieve financial
freedom is no secret.
For younger workers on a financial treadmill, the first step toward financial freedom is
recognition that you have time to change direction: Clearly understand the difference between needs
and wants, pay off high-cost debt, spend less than you earn, setup a goals-driven and disciplined
savings and investment program and seek education and training to increase your earnings
capability.
Years ago, a reporter asked me for the No. 1 reason that people did not accomplish their
financial goals. I replied, "The fuzzy goals syndrome." Asked to explain, I noted that a fuzzy goal
usually has the word "someday" attached to it.
Progress demands specificity - a concrete objective, a dollar target and time frames (a plan
of action).
Suppose that your goal is to own a second home at the beach. Determine what beach location,
what kind of home and what it would cost today. If your objective is to purchase the home five
years from now, add in an inflation assumption to today's cost for an estimated cost in 2010.
Determine how much money you can set aside today, and based on the estimated future cost,
calculate a conservative estimate of your after-tax earnings on additional savings. You can then
determine how much you need to save and invest each month to have the money that you will need on
your target date. You then must decide where and in what to invest. Then you need to monitor your
progress and make appropriate adjustments.
Use the same process relative to any goal, such as college funding for children, or
accumulating money for retirement. Just eliminate the word "someday!"
Your "What If" Fund
Financial freedom means having sufficient liquid savings to cope with life's emergencies and
short-run needs. Beyond money in a checking account, maintain a separate "What If" fund. Your What
If fund should hold emergency money, funds for periodic repairs, replacement of major items like a
car, vacation money and near-term big expenses.
This is your "financial teddy bear" that provides security, comfort and assurance that you
can roll with the punches. One way to fund the fund is with a no-minimum, no-fees, no-gimmicks,
liquid, FDIC-insured savings vehicle. Right now, they're paying a healthy 3 percent interest
annually, and are on the rise.
Then, There's the Long Term
One of the sad, inevitable realities of your future is that you're going to be alone
sometime during your latter years. The average woman today will live to age 79 - more than 14years
past retirement and 7 years longer than the average male. There are far more widows than widowers;
divorced women have less money than divorced men; and there are infinitely more women in nursing
homes than men.
So, the first thing you need to do is maximize your participation in all tax-favored
retirement vehicles available to you, such as 401(k), 403(b), IRA or other plans. Say you can't
afford it? Read the previous paragraph again - you really can't afford not to.
Be realistic. Retirement can be more expensive than you think, especially in later years
when health-related costs increase. The Social Security Administration will provide an estimate of
your monthly benefits. If you are covered by a pension plan, you can also get estimates of future
income streams. But beyond that, retirement cash flow will have to come from your savings.
Experts say that if you take more than 5 percent per year out of your investment accounts,
you increase the risk of cutting into principle and running out of money before you die. Some
advisors suggest not taking more than 4 percent per year, to be even more conservative. But suppose
that you decide on 5 percent; what does that mean? It means that for every $1,000 per month, or
$12,000 per year, that you want in cash flow, at a 5 percent withdrawal rate you need $240,000 in
savings! That's not much to live on.
More realistically, let's say you'll need $50,000 annually to live on. You'll then need
$1,000,000 in liquid assets. How's that for a wake-up call!
Saving for retirement is important, but it is not enough. The full retirement age for many
under Social Security is age 67, and given funding strains, younger workers may see full retirement
at an older age, even age70. There are many reasons why you may need liquidity prior to retirement,
and borrowing from your 401(k) plan is not advisable.
Rationalizing that they are saving in their retirement plan, many workers have little to no
personal savings. A rising pool of personal savings, in addition to tax-sheltered retirement
savings, is important for freedom and flexibility. I call personal savings your Freedom Fund.
Your Freedom Fund
Would you and your spouse or partner feel more secure and free if you had one to two years'
worth of living expenses in a liquid investment pool? Think about that - the ability for life to go
on with no financial strain in case of a job or career change, accident, or short- or long-term
disability.
Suppose that you have $10,000 in personal savings now, but in five years you would like to
have $100,000 in your Freedom Fund. If you could invest at an annualized after-tax return of 6
percent, you would have to save $1,240 each month (about $41 per day). Too much? If you extend the
time target to eight years, you only have to save $683 per month.
Don't let big numbers intimidate you. What counts is the resolve to get started, even if
initial savings are modest. One hundred dollars a week, $400 per month, at 6 percent yield grows to
$65,306 after 10 years; $115,323 after 15 years; $183,258 after 20 years. These numbers illustrate
the power of time and compounding. They also illustrate the cost of procrastination.
To achieve this, you'll probably have to turn to stocks. Mutual fund programs suitable for
dollar-cost-averaging will help to offset the market's volatility over time. For accounts of
$50,000 to $100,000 or more, separate account management programs offer greater degrees of tax
efficiency compared to mutual funds.
Time to Get On Track
A recent MetLife study showed that only 24 percent of full-time employees feel in control of
their finances, and almost three-quarters (70 percent) do not have a financial plan. When
interviewed about progress toward retirement savings goals, 9 percent said that they had no goals;
19 percent had not started saving; 22 percent were "significantly behind" relative to goals; 23
percent were "somewhat behind." Only 27 percent were either "on track" or had reached their goal.
All too often, I see professional women who have successful businesses but do not run their
personal financial affairs like a business. They do not have a contingency plan, a cash and debt
management strategy, short- and long-term goals, or periodic performance reviews, which makes them
highly vulnerable to the whims of the market and fate. You are a business, in effect, an economic
unit, and savings goals are but one part of an overall plan.
Resolve to build your Freedom Fund within the context of a comprehensive financial life
plan. It may be the best stress reliever that you'll ever find.
Too many people - women and men- let their money run their life. The opposite should
be your mantra. Your life should run your money.
