Let’s talk about the 10 levels of financial independence and the 5 stages of financial Independence . The very first step of my FIRE checklist, it’s to calculate your financial independence number. The easiest way to figure out your FIRE number is to multiply your total expenses by 25. But what I want to point out is that you can actually go through 10 different levels of financial freedom before you actually achieve your ultimate FIRE number.
When you set your goals and start your net worth with zero dollars, it’s really hard to look at your FIRE number at 1 million, 2 million, or 3 million dollars. I find many people either give up their FIRE journey or just don’t want to start at all because they don’t see how it’s possible to go from zero to millions.
This is why I want to show you how you can achieve all 10 levels of financial freedom throughout your FIRE journey because it’s going to help you psychologically to achieve your goals one step at a time. So in this article, I’m gonna help you set your goals to achieve different levels of financial freedom or financial independence.
One Goal at a time
There’s no one-size-fits-all solution to the equation of financial independence because your financial situation and the legacy you’re trying to build is entirely different from the rest of us. I’m gonna show you the goals I had throughout my FIRE journey and how I achieved them one by one.
One of the keys to my financial success is to focus on one small financial goal at a time, while you’re working on your bigger FIRE goals like Lean FIRE, Barista FIRE, Coast FIRE, and Fat FIRE. No, I didn’t just make these names up.
So first, I wanna go over the macro side of the FIRE journey or the 5 stages of your financial Independence , and then I’m gonna go into the smaller details with the 10 levels of financial independence that will line up with Lean FIRE, Traditional FIRE, and Fat FIRE.
5 Stages of Financial Independence
Stage 1 is Dependence. We were all born into this stage being dependent on our parents or caretakers to provide financial support. You may be in college paying tuition on your own, you took out a student loan, or you’re relying on someone else like your parents to pay for your tuition expenses. You’re working a 9-5 job to pay for your mortgage, and utilities, and pay down your debt.
So in this stage, you’re relying on your active income or debt to pay for your personal expenses, and you don’t have full control of your finances. So stage 1 or dependence is typically the first 4 steps of my FIRE checklist when you’re working on your budget to figure out your FIRE number, saving your rainy day fund, and paying off your debt.
Stage 2 is solvency. This is where your expenses are lower than your earnings. You are typically in this stage once you complete the first 4 steps of my FIRE checklist and you’re working on maxing out your emergency fund. You’re out of debt, but you still need your active income to pay for your expenses, but you have some control over making financial decisions. So essentially, you are no longer living paycheck to paycheck.
Stage 3 is stability. This is when you complete step 5 of our FIRE checklist by being debt free and saving 3 to 6 months of your expenses into an emergency fund. This stage gives you the stability to start investing in your future. You have the excess income to not only invest for your retirement but enjoy your life a little bit by traveling or doing something else that you enjoy doing.
You’re most likely on steps 6, 7, or 8 of our FIRE checklist by maxing out the Roth IRA, HSA, employer retirement, and saving at least half of your income.
Stage 4 is independence. This is where you make enough income to support your lifestyle without being dependent on anything else. The most important part of being financially independent is that your investment is making enough for you to replace your active income like your 9-5 job.
You have the freedom to upgrade your home, buy a new car, or travel to wherever you want with the earnings or dividends you get from your investment. You might also have extra money that you can put towards investment and expand your opportunities in real estate or business.
This is when my wife and I achieve our financial independence, and we can choose to retire whenever we want. So typically, you are on steps 8, 9, or 10 on the FIRE checklist.
Stage 5 is abundance. This is when you have more investment income than you need to maintain your chosen lifestyle. There’s more financial freedom than freedom. This is step 9 of our FIRE checklist, which is to build generational wealth. You can’t ever complete step 9 because your investments will continue to grow as long as you’re alive in this world.
We want to focus on creating our generational wealth so we can distribute our wealth to the next generation or charities when we pass away. We also want to focus on giving back to the community throughout our FIRE journey. You’re probably wondering why paying off the mortgage is on the very final step of the FIRE checklist.
It doesn’t have to be because it depends on your age and risk tolerance. If you are more risk averse and close to your retirement age, you should strongly consider paying off your mortgage prior to your retirement to reduce your overall expenses.
My wife and I plan to have our mortgage paid off when we’re in our 50s. Right now, in our 30s, we believe that we can make more money in the long-term by investing the difference with the stock market instead of paying down the mortgage.
Disclaimer: This is not financial advice, and I encourage you to do your own risk assessment and figure out what works best for you and your family. It’s not wrong to pay down your mortgage early, despite what you hear from most investment professionals.
Every level of Financial Independence
Now, let’s talk about the 10 levels of financial independence. When you look at the whole spectrum of financial independence, it starts with Lean FIRE, somewhere in the middle it’s Barista FIRE and Coast FIRE, and on the far right of the spectrum is Fat FIRE. It’s up to you where on the spectrum you consider yourself truly financially independent.
My wife and I chose Fat FIRE because we want to live in several locations and travel the world. This spectrum is something I created for my reference, and it’s not by any means standardized across the FIRE community. But I hope it helps you understand the wider spectrum of FIRE you’re trying to achieve.
This blue line is your life. On the far-left side is where you’re relying on debt to get by, and you’re most likely living paycheck to paycheck. Unfortunately, most Americans are stuck in this part of the spectrum, and they can’t seem to get out of the paycheck-to-paycheck cycle. Once you have your emergency fund saved, this is when you truly start getting out of the paycheck-to-paycheck cycle and start saving and investing for your early retirement.
And during our FIRE journey, we’ll get to Lean FIRE first, and we are very close to our Lean FIRE number. This is if we choose to live a minimalistic lifestyle by living on a bare minimum. Our Lean FIRE number is about 1.4 million dollars saved and invested if our lean expenses are around $50,000 a year. Our Coast FIRE is probably around the same as Lean FIRE if we choose to coast into our normal retirement age.
However. I’m not a fan of Coast FIRE because I don’t really think it should be categorized as a part of the FIRE strategy, and the idea of it is to stop investing and let the investments let us coast into the normal retirement age. Our Barista FIRE number is 1.75 million dollars saved and invested if I choose to have a part-time job with at least $30,000 a year.
Again, I’m not sure why Barista is a part of the FIRE movement because the concept is that I continue to work on a part-time basis. Our Fat FIRE number is 3.7 million dollars, and that’s when we can retire early and maintain the same lifestyle we have now.
So with our Fat FIRE number at 3.7 million dollars, we’re going to have 90% invested, and 10% kept in cash or bonds. The 10% will also cover at least 3 years of our annual expenses. During a bear market like in 2022, we would rely on cash or bonds to pay for our expenses instead of selling our investments at a loss. The bear market historically would last anywhere between 12 and 18 months.
When the stock market becomes bullish again, then we would live on our investments. So with a 4% withdrawal rate using the Trinity Study, that’s about $133,200 a year in passive income from the 3.3 million dollar investment portfolio at age 45. Since we’re holding these investments for the long term, we would only pay 15% in capital gains tax during our retirement.
Based on the 2022 numbers, and I don’t know how it’s gonna be in the year 2031, but after the standard deduction of $25,900, and the first $83,350 is taxed at 0%, we would only owe about $3,600 in capital gains taxes every year during our early retirement. At age 45, we’re not gonna be collecting any pensions yet, so we can keep our taxable income really low. I’m not a tax consultant, so I would strongly encourage you to find one to plan your taxes during your retirement.
Now that we know our Fat FIRE number is at 3.7 million dollars, our level 1 was to have our emergency fund saved but only up to the deductibles. Most people would need anywhere between $1,000 and $2,000, but it really depends on the number of people you have in your household and how much total you need for a rainy day fund. At this level, you would be focused on getting out of being financially dependent.
Our level 2 is to have a fully funded emergency fund. I didn’t mention debt, but I can tell you from my experience that having debt will just slow down your FIRE journey. I was at one point $110,000 in debt.
My rule of thumb is to have 3 months of essential expenses saved if you have a dual-income household, and that means if you and your spouse both have different sources of income or have 6 months of essential expenses saved if you are the sole provider in your household.
Keep in mind that I said essential expenses, so that should be the five following categories: household, utilities, groceries, transportation, and insurance. You should not include anything discretionary in this level.
Level 3 is to have one month of FIRE expenses invested, and this does not include the emergency fund you set aside in levels 1 and 2. In our case, it was about $10,000 invested in the market. This level could be different because you’re trying to figure out what to invest in and where to park your investments.
Level 4 is 3 months of FIRE, and that’s $30,000 for us.
Level 5 is 6 months, and that’s $60,000.
Level 6 is one year of expenses, and that’s $120,000 invested.
Level 7 is five years, and that’s $600,000 invested.
Level 8 is 10 years or 1.2 million dollars invested.
When we reach level 9, that’s when we’re financially independent with 25 times our annual expenses, or 3.3 million dollars invested. But we won’t be truly ready to retire until we reach level 10 with at least 3 years of emergency reserve saved in cash or bonds.
I know it’s really boring when I talk about budget, but it really starts with you budgeting for expenses to figure out your FIRE number. My wife and I have a budget in place, and we are being very intentional with what we’re spending. We vowed never to take out any debt and remain debt free.
We pay ourselves first every month by automating our savings and investments. We know exactly how much of our income is going to our travel fund, taxable brokerage account, retirement, and discretionary fund. We are living way below our means because we value experiences over luxury items.