At what point do you achieve financial independence?
Is it when you don’t care whether the market goes up or down? Is it after your last child graduates from college? Is it when you simply don’t care about money anymore?
You have your own definition of financial independence for one very good reason: it means something different to everyone.
You can’t use one yardstick to measure financial independence. What’s required to attain that lofty goal depends on too many factors: your age, where you live, the size of your family, and a whole slew of other possible variables.
Don’t get burdened by someone else’s definition of financial independence. Rely on your own knowledge of yourself for the definition that has the greatest meaning to you.
Of course, there are plenty of distractions that could sidetrack you on your journey towards financial independence. Here are three factors that everyone talks about but are probably overemphasized.
Investment Returns
“Believe it or not, return is over-emphasized by plan sponsors and advisors,” says Dr. Guy Baker, founder of Wealth Teams Alliance in Irvine, California.
This shouldn’t surprise you. Almost a decade ago a research paper out of Wharton showed that controlling spending (i.e., investing early) and delaying retirement had a greater impact on attaining a comfortable retirement than any particular asset allocation you select.
In fact, the paper suggested you needn’t worry about optimizing investment returns for two reasons. First, there’s little practical difference between the optimal return and the average return. Second, if that difference in return is important to you, you can make up for that difference simply by working a little longer.
“The idea that participants need funds that will outperform the market is certainly overemphasized in the retirement industry,” says Jeff Coons, Chief Risk Officer at High Probability Advisors in Pittsford, New York. “Staying on a plan of saving and letting the markets work for you over time is far more important than playing the lottery of trying to find outperformance from funds on the investment menu.”
Finally, the real measure of a comfortable retirement isn’t the annual return you earned during your savings career, it’s the ability to pay your annual expenses once you hang up your corporate cleats.
“I believe that too much weight is placed on historical returns and the plan’s focus on growth instead of income,” says Steve Gaito, President of Retirement Resource Management in Asheville, North Carolina. “The closer you get to retirement the more important income becomes. Given current interest rates this is a difficult challenge given current options in most plans.”
Time (But Not in the Way You Think)
When it comes to retirement savings, they always say time is on your side. That’s true, but only if you take the long view.
Too often short-term thinking tempts savers into questionable investments. This is the lure of instant gratification. Almost any sort of investment fad falls into this category.
“Time is the most overemphasized factor when it comes to attaining financial independence,” says Mark Henry, CEO and Founder of Alloy Wealth Management based in Charlotte, North Carolina. “Everybody wants a get-rich-quick solution. It takes time to see results, it’s not going to happen overnight. Taking a slow and steady approach isn’t as exciting as talking about meme stocks and quadrupling your money. It doesn’t matter how much money you make. If you make $2,000 a month, put aside $200 a month in a shoebox, never got a raise, after 15 years you would look at your shoebox and feel good about what you’ve saved. You would feel wealthy. We forget how important it is to pay ourselves first. We know we have to pay the bills, but pay yourself first, then everyone else can get in line. Paying yourself first is a mindset and you have to believe you are worth it.”
The Asset Side of the Ledger
If you’re beginning to detect a theme here, you may be right. Everything here deals with counting the money in your account.
Don’t misunderstand. You do want to count that money, for it acts as a measure to how close you are to your goal.
The problem arises, however, when you overemphasize the asset side of the ledger. If you don’t have the other side of the ledger under control—if you fail to control your debt heading into retirement—you may find your golden years turn to bronze, or worse.
“Providers often emphasize owning assets over all else but forget about a healthy credit score that can attract more capital for you,” says Katherine Brown, Founder and Marketing Lead of Spyic in Spokane, Washington. “It is essential to address this by making it clear to participants that financial independence is a wholesome state that also calls for a healthy debt level.”
The Solution
How do you avoid these overemphasized factors? Maybe the best place to start is by identifying a factor frequently overlooked by plan participants when it comes to attaining financial independence. For this you need to start at the very beginning (it is, after all, a very good place to start).
“The question that is talked about but rarely truly answered/actioned is ‘what do you need to replace your income in retirement and how do you get there?’,” says Kurt S. Altrichter, Fiduciary Plan Advisor and President of Ivory Hill in Bloomington, Minnesota. “This starts with the basics of financial planning by creating a budget to see how much they can afford to save and then reviewing it on an annual basis to see where they are relative to their goals. This is overlooked because it requires more engagement and more education—it is easier not to do this.”
Obviously, this could be just another “lead a horse to water” situation. If you don’t avail yourself to the available resources, then you may have a problem. Fortunately, your retirement plan sponsor can help.
“Plan fiduciaries can help focus on this by making it part of their employee onboarding process or employee annual review process,” says Altrichter. “They can also have their employees fill out a general budgeting worksheet, define their financial goals and objectives and produce a few scenarios to help them achieve their goals. Then monitor this on an ongoing basis as part of the annual plan review process.”
Yes, it does sound like a lot of work and it might be easier not to do this.
On the other hand, isn’t a comfortable retirement worth the effort?