Personal Inflation

When trying to figure out whether or not I can FIRE I’ve needed to understand just how much I spend (along with a few other numbers).  To calculate this properly I started a few years ago to track every penny that I spent.  With this data I can then also make pre to post-FIRE estimates more accurately.  For example, in my case I know I can net off work related costs and rent but I know I have to add on home maintenance costs.  This is what my spending has looked like over the past few years:

Click to enlarge, RIT monthly spending

In 2015 I spent £24,413 and in 2016 I spent £27,001.  If I did nothing 2017 could be around £26,000 but FIRE is coming (could come?) this year so my spending profile will (could?) transition from pre to post-FIRE so that’s not bankable.

The other advantage of tracking spending like this is that you start to understand what your personal inflation is actually looking like which allows you to take action if it’s starting to get out of hand.  It’s no good going into FIRE with a planned spending of £20,000 per annum, which you then plan to increase with published inflation, only to find you’re actually spending £25,000, which is then increasing at a rate greater than inflation.  That’s a road to potentially running out of wealth before you run out of life.

I can smell the sea - 2017 Q1 Review

I couldn’t have asked for a better start to 2017.  From a Mediterranean home research perspective we spent some time on the Costa del Sol exploring from just east of Marbella through to Gibraltar.  We viewed possible homes, walked/ran on the beach, soaked up some sunshine and also took a few days to put some charge back in the batteries in readiness for the final push from FI to FIRE.

All I can say about this part of Spain is that I could very happily grow old in this part of the world.  The final fight between this part of Spain and Cyprus really is on but to be honest I expect I’ll be very happy in either location.  I just feel so fortunate that this is now possible and is really about to happen.

Click to enlarge, The view from one of the properties within our budget

On the financial side of things the world is also good with savings and investment returns putting more icing on the cake by adding another £75,800 to my wealth.  Let’s look at this in a little more detail.

SAVE HARD

I unapologetically continue to define Saving Hard differently than most personal finance bloggers.  For me it’s Gross Earnings (ie before taxes, a crucial difference) plus Employer Pension Contributions minus Spending minus Taxes.  Earn more and one is winning.  Spend less or pay less taxes and you’re also winning.  Savings Rate is then Saving Hard divided by Gross Earnings plus Employer Pension Contributions.  To make it a little more conservative Taxes include any taxes on investments but Earnings include no investment returns.  This encourages me to continually look for the most tax efficient investment methods.  I finished the quarter with a reasonably healthy Savings Rate of 52.2% against a plan of 55.0%.

Click to enlarge, RIT Savings Rate

Saving Hard score: Conceeded Pass.  I can’t give myself a pass as I’ve missed the target but when I’ve saved £51,800 (admittedly including a very healthy bonus) and only spent £6,500 I’m also not going to beat myself up about it too much.

Keep calm and carry on

Over a lifetime of investing we’re going to see a lot of things happen.  The more obvious events will likely be the continual bull and bear markets that have occurred in the past and I wouldn’t bet on not occurring in the future.  Filter the noise by correcting for the continual devaluation of money via inflation then plot on a log chart and they’re clear to see for both the US and the UK.

Click to enlarge, Monthly real S&P500 price

Click to enlarge, Monthly real FTSE100 price

I’m not old enough to have invested through all the FTSE100 cycles shown and I’m certainly not old enough to have invested through all the S&P 500 (or it’s predecessors) cycles that are visible.  Instead I started investing seriously in late 2007 so my early days saw the global financial crisis but I’ve then been able to ride that bull wave.  Today that bull wave has resulted in valuations such as the Price Earnings Ratio (P/E) or even the Cyclically Adjusted Price Earnings Ratio (CAPE) looking high compared to history.  The P/E for the S&P 500 is 26.3 against a long run average of 16.0 and the CAPE is 28.7 against a long run average of 16.7.  The FTSE 100 is in a slightly different state, albeit measured against a data set with a different duration.  It’s P/E today is a silly 30.7 against a long run average of 17.2 while the CAPE is 15.2 against a long run average of 18.0.

Holding pattern musings

2017 so far is starting to feel like I’m in a bit of a holding pattern.  We’re starting to feel excited about the new adventures we are going to face in FIRE, I feel like a small part of me has already left my workplace yet I don’t want to go any further until my 2016 bonus is paid and a longer term incentive also appears.  Not long now.

While in that holding pattern I’ve just continued with my saving hard and investing wisely strategy which has my wealth this year already up £36,000 to £1,155,000.  More than enough to live the lives we want to live in FIRE.  There’s also been a few events and learnings over the period.  Let’s look at a few in brief.

Budget

Philip Hammond delivered his Spring Budget statement, which for people like myself, was just another chance to increase taxes.  Previously, from 06 April 2016 the dividend tax credit was abolished and a new tax free £5,000 dividend allowance was introduced to partially compensate.  Hammond has decided he wants some of that so from the 06 April 2018 will reduce the allowance to £2,000 ‘to address unfairness’.  Dividends above this level will be taxed at 7.5% if you’re on the basic rate, 32.5% if you’re on the higher rate and 38.1% if you’re on the additional rate.

If I stayed in my current grafting up state Hammond would have grabbed another £1,143 from my pocket.  But alas times are a changing.  We’ll be in the Med by late summer with that more and more looking like being Cyprus.  There I’ll use the Cyprus and UK Double Taxation Convention, the Cyprus non-domicile rules and the Cyprus tax laws to pay precisely £0 in tax.  Sorry Mr Hammond not on my watch...

Rebuilding my credit score

When we left my credit report story I had a credit score of 618 out of 710 and what I thought was a store card that had just gone into early arrears, which wasn’t even mine, but which I had disputed with noddle.co.uk.  This is how it played out.

Click to enlarge, My credit score and credit rating in September 2016

In October 2016 I received a letter from noddle stating:

“Further to our previous correspondence about case reference , we can confirm that Shop Direct Finance Company Ltd has not supplied a response to the dispute raised on your behalf.  Callcredit [this is noddle] is unable to amend an entry without the permission of the organisation responsible for supplying it and as a result, we cannot assist you further with this dispute.  We would advise you to contact Shop Direct Finance Company Ltd [the store card] directly in order to discuss this matter...”

While I was waiting for that response those early arrears became sustained arrears resulting in my credit rating falling from 618 to 572 out of 710.

Click to enlarge, My credit score in October 2016

So just who is this Shop Direct Finance Company Ltd?  Well it turns out they own very.co.uk, littlewoods.com and a few others.  They also have a dedicated identity theft team.  The first question I’m asking myself after finding this detail is if you need a dedicated identity theft team maybe as a company you need to improve your security...  Just in case it ever happens to a reader the phone number to contact the identity theft team is 0800 0151 290.

2016 In Review, Back to Plan A

My self assessment tax bill has been paid and the final dividend laggards have paid up meaning I can now financially close out 2016.  This will hopefully be the third last quarterly summary after which the format will switch from an accrual of wealth format to one focused on wealth preservation as I start to drawdown in FIRE.

If you had have offered me 2016 on the 01st January 2016 I just wouldn’t have believed you.  When both savings and investment returns are summed I’ve increased my wealth by £263,000.  Quite a staggering number and a result which enabled me to both become a millionaire and to become financially independent (FI).

2016 was also of course the year of the Brexit vote which has resulted in Sterling weakening against many currencies.  Measured in Euro’s, which I need for my Plan A, it’s a more subdued EUR134,000 increase however I’m certainly not going to turn it down.

Given that I’m also now emotionally ready to FIRE I’m going to change the structure of these quarterly reviews a little to start to focus on what’s important to me going into FIRE.

Let’s look at the gory details.

SAVE HARD

I unapologetically continue to define Saving Hard differently than most personal finance bloggers.  For me it’s Gross Earnings (ie before taxes, a crucial difference) plus Employee Pension Contributions minus Spending minus Taxes.  Earn more and one is winning.  Spend less or pay less taxes and you’re also winning.  Savings Rate is then Saving Hard divided by Gross Earnings plus Employee Pension Contributions.  To make it a little more conservative Taxes include any taxes on investments but Earnings include no investment returns.  This encourages me to continually look for the most tax efficient investment methods.  I finished the quarter with an uninspiring Savings Rate of 44.9% against a plan of 55.0%.  Don’t worry it wasn’t a Christmas blow out but the result of PAYE tax on my earnings (as always) combined with the added bonus of a self assessment tax bill.  Over the year my physical spending remained well in control with spending being only 8% of Gross Earnings plus Employee Pension Contributions.

Click to enlarge, RIT Savings Rate

Saving Hard score: Conceeded Pass.  I can’t give myself a pass as I’ve missed the target but given my savings rate is 92% under the traditional financial bloggers measure, which even trumps (no pun intended given yesterdays ceremony) Jacob of Early Retirement Extreme’s 75%, I’m not going to beat myself up about it.

I’m now ready to FIRE

To be able to successfully FIRE I think two things need to occur:

1. You need to be financially ready; and
2. You need to be mentally ready.

If you’ve planned well then the first one is easy to recognise and watch for as you can simply see how far away from your number you are during the accrual period.  Then it’s no more complicated than one day you’ve passed that threshold and you know you’re done.  I’ve had this one done and dusted for a while now.  I can also confirm I had no trouble recognising it.

Since calling financial independence I’ve continued to grow my wealth and if I’m honest it’s now starting to feel a bit like I’m keeping score at best and it’s my precious at worst.  Since having enough I’ve added a further £113,000 and when measured in the currency that matters to me I’ve added EUR82,000.  It’s time to start spending it and the reason I haven’t is because I haven’t been mentally ready.

Click to enlarge, My wealth continues to grow

I’ve found that the mental readiness piece is more difficult to recognise as at least for me I didn’t know I was actually ready until I’d actually passed the threshold.  Let me demonstrate by using a few recent examples.  When I became financially ready I put on a wry smile, did a mini fist pump and we had a very small family celebration.  Then on Monday morning my alarm went off at the crack of dawn and I went back to doing what I’d always done.  I did that right up until just before Christmas.

2016 HYP Review

My mature overall investing strategy is these days not much more complicated than a diversified collection of low expense, physical (as opposed to synthetic), income based (as opposed to accumulation) ETFs tracking enough indices to give me diversification across asset classes and countries held within low expense wrappers.  While this is where my journey has left me, as the best strategy for me, I’ve tried a number of different things over the years that I’m either neutral on or negative to.

A negative, for example, are actively managed investment funds.  As I’m negative on them I’ve done everything I can to move my investments away from them but even so I still have a couple that I can’t sell for tax reasons.  A neutral is my UK High Yield Portfolio (HYP) which because I’m neutral on it now just sits passively amongst my portfolio doing its thing.  It’s just completed its 5th calendar year and still contains a not insignificant £65,000 or so of my hard earned wealth.

Its original aim was to help me live off dividends only in FIRE and in that regard it’s still punching above its weight as it’s now only 6% of my total wealth but spins off 16% of my dividends.

My neutral approach mean changes to the HYP are now few and far between with changes for now only being forced by corporate events.  In 2016 there was only one of these:

• Amlin.  Bought on the 29 August 2014 with a forced sale on the 08 February 2016.  AML provided me with a total return of 59% over a little less than 18 months of holding

I’ve written and published that book

Over my 9-year journey to financial independence (FI) I’ve had a number of readers of both this blog and the fora that I frequent ask me if I’d write a book.  If the truth be told I was reticent while on my journey as I thought I would be a hypocrite for writing about how to achieve something that I actually hadn’t done myself.  That all changed in July 2016 when I achieved my financial independence goal with being a hypocrite switching to feeling empowered and ‘qualified’ to tell the story.

I also thought that I was too busy to write the book but in hindsight that was just the victim coming out in me.  Like anything in life both achievement and success is all about unrelenting prioritisation in my experience.  Without that you just don’t have a chance.  So with a focus on just work and the book (thanks go out publically to a very understanding and supportive family who’ve had to put up with it and me) I’ve been able to get it written over the past months and it’s now published.

I’ve called the book - From Zero to Financial Independence in less than 10 Years: Tools and techniques to escape the rat race quickly.  It’s currently only available on Amazon but is available in both ebook and paperback formats giving some choice.

So why write it?  A few reasons:

• I’ve found my FI journey an incredible experience both financially and spiritually.  I’ve also learnt so much, including a lot about myself, most of which will serve me well for life.  This includes a switch to focusing on quality of life rather than the far more common standard of living.  At age 44 I am also now in a position that is incredibly liberating and empowering.  I would just love others to be able to at least see what’s possible and hope the book might spread that message further than this blog.  If they then choose to stay on their current course I’m more than ok as at least they saw an alternate option and made a choice.  The book has only been live a few days and this goal is looking good so far.  It is already ranked number 4 in their retirement planning category, number 11 in their ebook personal finance category and number 24 in their ebook finance category.
• I wanted to provide the book that readers asked for.
• An unexpected reason was that I actually found the whole process incredibly cathartic.  For years I have been learning and had tonnes of information swirling in my thoughts.  By sitting down and putting pen to paper it allowed all that to be organised and filed forever freeing my thoughts for more.

Pushing pensions to the limit

I continue to find pension wrappers are a powerful tool for building FIRE wealth quickly.  Let me demonstrate with a couple of quick examples:

• Over my FIRE journey I am fortunate to have found ways to earn more which means that I am today a 45% additional rate tax payer.  On top of that I also have to pay 2% employee national insurance on the last of my earnings.  This means that if I earn £10 and I don’t salary sacrifice it into a pension wrapper I only end up with £5.30 to invest.
• My employer allows pension salary sacrifice, has a contribution match up to a certain percentage and also gives me 10% of the 13.8% employer National Insurance that they save when I contribute to the company pension.  So under these conditions if I put that same £10 into the company pension I actually end up with £21 to invest.  That’s nearly 4 times more.
• Even if I continue to contribute to the pension wrapper once the employer match is over its still favourable.  In that instance I still end up with £11 going into the pension which is more than 2 times the savings outside of the pension.

The wise among you will now being saying ‘but pensions are just a tax deferral scheme’ and that’s certainly true but let’s look at how that will play out in FIRE.  The UK in my view can almost be considered a tax haven for those with enough wealth that work is not required.  To demonstrate let’s take £20,000 from that pension pot every year.  The 25% pension tax free lump sum effectively gives one £5,000 tax free.  Then one also gets a 0% tax rate from the £11,000 Personal Allowance leaving just £4,000 subject to 20% Basic Rate tax.  That works out to be an effective rate of tax on the £20,000 of just 4.0%.

Move to the Mediterranean and it could be even more favourable.  Cyprus, for example, gives a choice of how pensions can be taxed.  The first is 0% tax until you earn EUR19,500 with the next band being 20%.  In this example our £20,000 (assumed to be EUR22,460) sees an effective tax rate of just 2.6%!  The other method favours high pension sums as the income is taxed at the flat rate of 5% on amounts over EUR3,420.  In this example one’s effective tax rate would be 4.2% so one would pick the former in this example.

Where’s the snowball – why you’d better save if you want to FIRE

You don’t have to travel far into most personal finance sites before you find the obligatory compound interest post.  Even I did one back in 2012 where I was so bold as to call it The Miracle of Compound Interest.

In brief Compound Interest, sometimes also called the snowball effect, is at its most basic just interest on interest.  A trivial example.  Let’s say you have £1 and can get an investment return of 10% per annum (those were the days).  Choose that option and after a year you’d have £1.10 which is your £1 plus ‘interest’ of £0.10.  If you reinvest that for another year you’d have £1.21 which is your £1, last years interest of £0.10, this years interest of £0.10 on your £1 but also £0.01 which is interest on your £0.10 interest from last year.  Interest on interest...

So that’s the lovely theory but as someone who is now Financially Independent and so has been there, done that, got the t-shirt, what’s my view on it.  I’d now say care is needed.  Let me demonstrate with three simple examples.  Let’s go back in time to the end of 2007 where I’m going to give each of our punters seed capital of £50,000, I’m going to assume a real (after inflation) return of 4.1% (what I’ve achieved on my portfolio of trackers after expenses) and I’m going to assume their each looking for wealth of £800,000 (which is not far off what I thought I needed back then although inflation since has ensured I now need 2 commas) before packing in the day job.  From here their journeys will vary:

• TheRIT will crack on with working hard, focus on quality of life and so annually squirrel away £58,728 per annum (which is the average annual savings I’ve achieved since I’ve been on my FIRE journey, equating to a post tax Savings Rate of 82.4%) earning a real return of 4.1% per annum (my actual real annualised return thus far).  I know that will include inflation adjusted savings but please give me a little slack here as it’s not important to the point I’m trying to make today so won’t bother with inflation adjusting.
• MrAverage will also crack on with working hard but instead focuses on standard of living.  This means he can only save 5.1% of post tax earnings which has been deliberately chosen as it’s the current UK household saving ratio according to the ONS.  Like TheRIT, MrAverage achieves a real return of 4.1%.
• MissInvestingSuperstar follows in the footsteps of MrAverage but boy does she know her stuff when it comes to picking winners.  So much so that every year that she invests she manages double the return of the others and so achieves a real 8.2% per annum.  Ask yourself how many people actually achieve that and would you be prepared to back yourself to achieve that with severe disappointment many years hence if you don’t?

Click to enlarge, My after tax Savings Rate over the long term has been 82.4% 

Herefordshire or bust?

In recent times some focus in the RIT household has now switched from A Place in the Sun to what about Herefordshire?  As with any of our crazy ideas our approach is always plenty of desk research and then boots on the ground.  All I can say is that Herefordshire is everything we remember from previous visits.  An absolutely beautiful part of the world but then again at this time of year in the UK, with the leaves yellow to red and starting to fall, ugly parts are probably the exception so some care is needed.

Click to enlarge, Kingsland, Herefordshire (source)

Of course our trips have not been all about roaming around country paths, lanes and villages  although we’ve done some of that.  They’ve also initially focused on looking at the possibility of building a modest warm home.  Don’t get me wrong, we love an old historic grade II listed home like the next man or woman, but as a FIRE’ee we don’t very much like the energy performance or maintenance costs that go with them.