5 Levels of FI – Demystifying the noise

“On a journey into the unknown, perfect progress is perfectly impossible.” – Ethan Rarick

As an active member of the Financial Independence movement, I’ve been participating in my local ChooseFI chapter and a topic came up surrounding levels of FI. I found these still to be confusing given the number of terms. Therefore, an article is born!

First, we have Financially Independent or FI. Once your living expenses are covered without needing to work you’ve reached financial independence.

FI is most commonly associated with the Trinity Study. The Trinity Study is a paper published in 1998. It was written by three Finance Professors at Trinity University studying safe withdrawal rates. The study sought to see if an investor ran out of money during their retirement years before passing away. The Trinity study is the basis for what many in the community call the 4% rule.

You can calculate your FI number by multiplying your annual expenses by 25. For example, if your annual expenses are $50,000 per year, your FI number would be $1.25 Million. After you have this money, the 4% rule should allow you to live off that nest egg to generate enough to pay for your annual expenses.

The 4% rule? The heck is that?

The origin of the 4% withdrawal rate, or the 4 percent rule, is commonly attributed to the Trinity Study. However, it came from William Bengen. Bengen published “Determining Withdrawal Rates Using Historical Data” in the Journal of Financial Planning in 1994. In the article, he spoke of the 4% withdrawal rate as a rule of thumb for withdrawal rates from retirement savings.

Several people in the FI space have contested that 4% is too risky and should be closer to 3.5% – 3%. While this is not financial advice, I would say be flexible. Anyone who can reach FI is financially savvy, and I would note that you need to make sure that you don’t just blindly follow the 4% without doing your calculations. This is also a double-edged sword. Despite following the 4% rule, the saver often ends up having a much larger sum of money than they could ever spend and therefore they may have been better off increasing the money they live off of to the tune of 5-6%. Flexibility is key!

Next up is Barista FI. Barista FI is the practice of saving up a smaller nest egg (compared to FI) and drawing passive income from the nest egg while supplementing with income from part-time work.

As we continue down the road toward financial independence we land on Coast FI. The definition of Coast FI is where you’ve saved up enough money for a traditional retirement and now you only need income to cover your current expenses. This may result in your scaling back work to match your current needs.

Another popular path is Lean FI. Defined as retiring on substantially less than what many would define as required for retirement. Quantifiably, many would state that number would be somewhere less than $1 Million. The goal of Lean FI is to live a more frugal lifestyle and allow for an earlier entrance into financial independence.

Conversely, we have Fat FI. Many would view Fat FI as the opposite of Lean FI. Broadly, practitioners of Fat FI seek to live a higher standard of living than traditional FI without looking to sacrifice their spending at all.

Whew! That was a lot.

Level 1: Barista FI

Level 2: Coast FI

Level 3: Lean FI

Level 4: FI

Level 5: Fat FI

All of this to say, Personal Finance is personal and everyone has options in how they seek Financial Independence. This is not a one-size-fits-all exercise. Personally, my family and I are targeting regular old Financial Independence, but who knows? That may change over time as priorities change.

I wish you luck on your journey and I hope this article has helped cut through all of the different terms to make the path more clear!