Financial goals towards your financial independence require a long term horizon, developing a good plan and discipline in execution of your plan.
Example 1
Do you want to become financially independent having available an amount at least equal to your average monthly disposable income? Contribute 20% of your gross salary into your pension fund and invest 20% of your net salary for 30 years.
Example 2
Do you want to become financially independent having available 88% of your average monthly disposable income? Contribute 20% of your gross salary towards your pension and invest 20% of your net salary for 25 years.
Example 3
Do you want to become financially independent having available 69% of your average monthly disposable income? Contribute 20% of your gross salary towards your pension and invest 20% of your net salary for 20 years.
Examples 4 & 5
Do you want to become financially independent in just 15 years? Increase your investment savings ratio to 30% to become financially independent having available 66% of your average disposable income. Increase your investment savings ratio to 40% to have 88% of your average disposable income.
Summary
- Define how much money you would require each month in order to become financially independent.
- Consider ways to increase your income and your savings and pension contribution ratios over the investment period.
- Calculate the investment period you will need to invest and contribute towards your pension and the savings and pension contribution ratios.
- You need to have in place sufficient income generating investments such as dividend yielding stocks or investment properties in order to fund the years between the age that you become financially independent and the age of 57, the minimum age you can currently withdraw from your pension fund in the UK. Always consult with your financial planner on the different options to access your pension fund.
- Take action and start applying the formula!
Below is a table summarizing some examples of how the FILIP formula could work for different investment horizons and different saving ratios.
| Example 1 | Example 2 | Example 3 | Example 4 | Example 5 | |
| Assumptions | |||||
| Pension contribution | 20% | 20% | 20% | 20% | 20% |
| Investment savings ratio | 20% | 20% | 20% | 30% | 40% |
| Investment horizon | 30 | 25 | 20 | 15 | 15 |
| Post inflation return | 4% | 4% | 4% | 4% | 4% |
| Household income | 70,000 | 70,000 | 70,000 | 70,000 | 70,000 |
| Investment period amounts (on average) | |||||
| Annual Pension contribution | -14,000 | -14,000 | -14,000 | -14,000 | -14,000 |
| Annual net income | 50,000 | 50,000 | 50,000 | 50,000 | 50,000 |
| Saving for investment | -10,000 | -10,000 | -10,000 | -15,000 | -20,000 |
| Annual disposable income | 40,000 | 40,000 | 40,000 | 35,000 | 30,000 |
| Monthly disposable income | 3,333 | 3,333 | 3,333 | 2,917 | 2,500 |
| Rent/mortgage payment (30%) | -1,000 | -1,000 | -1,000 | -900 | -750 |
| Available for other expenses | 2,333 | 2,333 | 2,333 | 2,017 | 1,750 |
| Total asset value – Financial Independence (in today’s money terms) | |||||
| Pension fund | 784,000 | 582,400 | 420,000 | 280,000 | 280,000 |
| Investments | 560,000 | 416,000 | 300,000 | 300,000 | 400,000 |
| Total assets | 1,344,000 | 998,400 | 720,000 | 580,000 | 680,000 |
| Financial Independence Income (in today’s money terms) | |||||
| Annual gross pension income | 31,360 | 23,300 | 16,800 | 11,200 | 11,200 |
| Annual gross investment income | 22,400 | 16,640 | 12,000 | 12,000 | 16,000 |
| Total annual gross income | 53,760 | 39,940 | 28,800 | 23,200 | 27,200 |
| Total annual net income | 44,557 | 35,000 | 27,600 | 23,200 | 26,500 |
| Monthly disposable net income | 3,713 | 2,917 | 2,300 | 1,933 | 2,208 |
| % of investment period’s average monthly disposable income | 111% | 88% | 69% | 66% | 88% |
These examples are estimates and in no way accurate calculations. They assume an annual gross household income of £70,000. However, you can adjust the above numbers for your income as the FILIP formula can work using similar estimated calculations for any amount of household income.
Don’t forget higher income is taxed at progressively higher rates. Please consult a tax expert for exact calculation of your tax expense based on your level of income and your personal circumstances.
Example 1 – Pay off debt, set aside enough for emergency and save for 30 years
Assumptions (income, pension and savings)
- 2 household members earn each the average UK income i.e. £35,000.
- Pension contribution: 20% of gross household income.
- Savings for investment: 20% of net household income.
Annual household income, pension and savings
Total gross income 70,000
Pension contributions (14,000)
Total net income (after tax deductions) 50,000
Savings towards investment (10,000)
Remaining disposable income 40,000
Or
Monthly disposable household income
Monthly disposable income 3,333
Of which rent/mortgage payment (1,000)
Available for remaining expenses 2,333
Note: For ease of reference some numbers are rounded to the nearest thousand pounds.
Assumptions (return, inflation, investment horizon)
- Pension and investment return: 7% This is the average return of the stock market and real estate investments in developed world countries over the last 100 years)
- Inflation: 3%
- Post inflation return: 4%
- Investment horizon: 30 years
- Tax: Income is taxed at current tax rates assuming tax rates will not be materially different in the future. There are also tax efficient investments you can use which will further increase the calculated net income.
Total asset values at financial independence (in today’s money terms)
Pension fund 784,000
Investments 560,000
Total assets 1,344,000
Gross income at financial independence (in today’s money terms)
Annual Pension income 31,360 (after pension age)
Annual Investment income 22,400
Total annual gross income 53,760
Total annual net income (after tax deductions) 44,557
Or Monthly disposable income after tax 3,713
This example assumes a household that after having paid off all high interest debt and having set aside a sufficient amount for an emergency, they earn the average UK income and apply the FILIP formula over a period of 30 years. After 30 years the household has sufficient money to be financially independent through:
a) their pension fund,
b) additional investment income and
c) a paid off primary residence.
After reaching financial independence there is no requirement to contribute to pension or save for investing the monthly net income is equal to the monthly disposable income. In this example the household achieves a monthly net income of £3,713, which is also the monthly household disposable income and is slightly higher than the average monthly disposable income the household had during their working lifetime.
This formula works the same for any amount of household income and it shows that saving for a period of 30 years 20% of your gross income towards your pension fund and 20% of your net income towards investing can result in a monthly disposable income which is higher than the average monthly household income over that period of 30 years.
Example 2 – Pay off debt, set aside enough for emergency and save for 25 years
Using the same assumptions as in the previous example the total asset values and monthly disposable income will be:
Total asset values at financial independence (in today’s money terms)
Pension fund 582,400
Investments 416,000
Total assets 998,400
Gross income at financial independence (in today’s money terms)
Annual Pension income 23,300 (after pension age)
Annual Investment income 16,640
Total annual gross income 39,940
Total annual net income (after tax deductions) 35,000
Or Monthly disposable income after tax 2,917
This is approximately 88% of the average monthly disposable income the household had during their working lifetime. For some households having 88% of what the monthly disposable income they had on average while they were working may be sufficient.
Therefore, applying the FILIP formula and saving towards investments and your pension fund for 25 years can lead to financial independence if this is a level of income you would be comfortable with.
Example 3 – Pay off debt, set aside enough for emergency and save for 20 years
Using the same assumptions as in the previous examples the total asset values and monthly disposable income will be:
Total asset values at financial independence (in today’s money terms)
Pension fund 420,000
Investments 300,000
Total assets 720,000
Gross income at financial independence (in today’s money terms)
Annual Pension income 16,800 (after pension age)
Annual Investment income 12,000
Total annual gross income 28,800
Total annual net income (after tax deductions) 27,600
Or Monthly disposable income after tax 2,300
This is approximately 70% of the average monthly disposable income the household had during their working lifetime. For some households having 70% of what the monthly disposable income they had on average while they were working may be sufficient. Therefore, applying the FILIP formula and saving towards investments and your pension fund for 20 years can lead to financial independence if this is a level of income you would be comfortable with.
Disclaimer: Of course these are examples for illustration purposes and they will depend on the assumptions materializing a certain period. If the investments earn on average a post inflation return of less than 4% the level of monthly disposable income will be lower, similarly if the average post inflation return is higher than 4% the monthly disposable income will be higher.
Reaching financial independence faster
If you want to reach financial independence faster, you can achieve this by increasing your savings ratio. Examples 4 and 5 demonstrate how the FILIP formula could work for higher saving ratios over 15 years.
Example 4 – Pay off debt, set aside enough for emergency and save for 15 years with an investment savings ratio of 30%
Assumptions (income, pension and savings)
- 2 household members earn each the average UK income i.e. £35,000.
- Pension contribution: 20% of gross household income.
- Savings for investment: 30% of net household income.
Annual household income, pension and savings
Total gross income 70,000
Pension contributions (14,000)
Total net income (after tax deductions) 50,000
Savings towards investment (15,000)
Remaining disposable income 35,000
Or
Monthly disposable household income
Monthly disposable income 2,917
Of which rent/mortgage payment (900)
Available for remaining expenses 2,017
Note: For ease of reference some numbers are rounded to the nearest thousand pounds.
Assumptions (return, inflation, investment horizon)
- Pension and investment return: 7% This is the average return of the stock market and real estate investments in developed world countries over the last 100 years)
- Inflation: 3%
- Post inflation return: 4%
- Investment horizon: 15 years
- Tax: Used current tax rates assuming tax rates will not be materially different in the future.
Total asset values at financial independence (in today’s money terms)
Pension fund 280,000
Investments 300,000
Total assets 580,000
Gross income at financial independence (in today’s money terms)
Annual Pension income 11,200 (after pension age)
Annual Investment income 12,000
Total annual gross income 23,200
Total annual net income (after tax deductions) 23,200
Or Monthly disposable income after tax 1,933
Or 66% of the average monthly disposable income the household had during their working lifetime.
Example 5 – Pay off debt, set aside enough for emergency and save for 15 years with an investment savings ratio of 40%
Assumptions (income, pension and savings)
- 2 household members earn each the average UK income i.e. £35,000.
- Pension contribution: 20% of gross household income.
- Savings for investment: 50% of net household income.
Annual household income, pension and savings
Total gross income 70,000
Pension contributions (14,000)
Total net income (after tax deductions) 50,000
Savings towards investment (20,000)
Remaining disposable income 30,000
Or
Monthly disposable household income
Monthly disposable income 2,500
Of which rent/mortgage payment (750)
Available for remaining expenses 1,750
Note: For ease of reference the numbers are rounded to the nearest thousand pounds.
Assumptions (return, inflation, investment horizon)
- Pension and investment return: 7% This is the average return of the stock market and real estate investments in developed world countries over the last 100 years)
- Inflation: 3%
- Post inflation return: 4%
- Investment horizon: 15 years
- Tax: Used current tax rates assuming tax rates will not be materially different in the future.
Total asset values at financial independence (in today’s money terms)
Pension fund 280,000
Investments 400,000
Total assets 680,000
Gross income at financial independence (in today’s money terms)
Annual Pension income 11,200 (after pension age)
Annual Investment income 16,000
Total annual gross income 27,200
Total annual net income (after tax deductions) 26,500
Or Monthly disposable income after tax 2,208
Or 88% of the average monthly disposable income the household had during their working lifetime.
Until the next article or video let’s all make informed financial decisions!
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An interesting blog post there mate ! Thanks for posting !
Thanks mate! Glad you liked the post!