Retirement vs. Financial Independence

Retirement vs financial independence: what should we focus on?

For decades employees have been encouraged to work hard until “retirement age” at which point they get to enjoy their “golden years”. But is this really the correct thought process?

Historically, upon retirement an individual would receive a defined benefit pension. This was based on their final salary, years of service and the company’s defined accrual rate. It was therefore beneficial to work for the same company throughout one’s life until reaching a predetermined retirement age. For many “retirement” was therefore a definitive event with a specific date, such as their 65th birthday.

Recently, however, there has been a significant shift away from these defined benefit schemes. Individuals can no longer rely on these defined benefit pensions to fund their retirement. Instead they have now become responsible for ensuring that their own investments will be able to fund their future life.

This is a huge shift in responsibility and one that many do not adequately understand. Whether you choose to utilise defined contribution pensions schemes or invest outside of the pension structure, it is your responsibility to ensure that you save and invest enough during their working years to pay for your life after work.

Perspective of retirement vs financial independence

Along with this responsibility, however, a shift in perspective has emerged: we are striving towards financial independence rather than retirement. If our responsibility is to pay for our future self, why are we focused on “retirement” rather than achieving financial independence? Rather than working until a certain age in order to receive a pension, we can focus on building an investment portfolio that will be able to fund our lifestyle.

So what do you need to be financially independent? Well, you need an investment portfolio that is sufficient to pay for your future expenses. For some this means saving 25 times their annual expenses, for others this will involve being able to live solely off the income produced by their investments. Among other things, these investments could include fixed income securities, share portfolios and rental properties, all of which can generate income for an investor.

So how can you reach financial independence more quickly?

Well, you could:

  1. Increase your savings rate (the percentage of your salary which you are investing). This will allow you to grow your investment portfolio at a faster rate. By spending less you will be able to both increase your savings rate and reduce the income required from your investments in the future.
  1. Increase the expected return of your investments. Historically, equities have returned, on average, more than property investments, which in turn have fared better than fixed income securities.

What happens once financial independence has been achieved?

It depends: some might choose to never work again; others may choose to continue to work fulltime because they find it challenging and rewarding; and an increasing number may choose to work part-time or undertake volunteer work. Regardless of the path your plan to take, the next time you make a decision on how much to spend or save, take a moment to think about retirement vs financial independence.