Your Money or Your Life: The Crossover Point

YMOYLThis is the twenty-third part of The Simple Dollar Book Club reading of Your Money or Your Life. Want to know more?

This concept fascinated me so much that I had to write a post specifically about it when I first read Your Money or Your Life.

In a nutshell, the “crossover point” is the exact point in time in which your income from investments surpasses your monthly income. At that point, you can basically do whatever fulfills you the most and not worry about the pay – you’ve completely destroyed the link between how you spend your productive time and the money you have in your pocket. In a way, this is basically the ultimate definition of financial independence – you can go on living your life whether you’re paid or not.

Some people have different terms for this. Personally, I call it walk away money, meaning that it gives you the freedom to simply walk away from aspects of your life that aren’t personal duties but don’t fulfill you, either – primarily, this refers to one’s job.

To illustrate all of this, let’s back up and look at something first.

graph

This shows the income and expenses of an average person over an average year. Notice that that person is fairly sensible in his spending, so for almost the entire year, his spending is less than his income. That means he’s getting into a better financial position. Let’s add another line.

graph

See that little yellow line along the bottom there? That indicates the income that this person would make just from investing the difference between his spending and his income, putting it in a relatively safe mutual fund that returns 7% a year. Over the first year, it’s not much, but let’s increase the time scale to, say, thirty five years.

graph

That little yellow line just represents the income each month off of the invested money, and that invested money is just the difference between spending and earnings each month. The fellow’s income is steadily going up, as are his expenses, but because he invests that difference (and leaves the investment income in the account), sometime in 2043 this person’s investment income becomes greater than his regular income. This is the crossover point, because now that person can quit his job and live his current lifestyle.

That’s a very long time, so let’s see what just a bit of frugality does to this story. Let’s say the person changes out some light bulbs for CFLs, eats at home more often, and cuts down on his taste for wine. This reduces his spending by $100 a month. Let’s see what this graph looks like:

graph

Just by doing a few simple frugality exercises, this person can quit their job three years earlier. Even more amazing, the line of total income is crossed as well in early 2042, meaning that he could quit at that point and continue to build the investment at the same rate.

That’s damn exciting, so let’s say this person is also excited and chooses to make some bigger frugality moves. He buys a smaller house (that still fits his needs) and drives his car a bit longer than he would have otherwise. On average, he trims off another $200 a month from his expenses. What does that look like?

graph

In mid-2032, just 25 years, this person can walk out the door and live off of his investment income. This is the real kicker in the book – frugality and steadiness pay off big time. They give you freedom to literally do whatever you want – volunteer work, write the Great American Novel, even sit in your underwear all day and play Guitar Hero. Whatever your passion is, being frugal and spending less than you earn can take you there.

Tomorrow, we’ll continue with the eighth chapter, “The Crossover Point,” starting at the subheading “The Power of Working for a Finite Period of Time” and continuing until “Voluntary Action: The Freedom to Choose What You Do and Do What You Choose.” This section appears on pages 268 through 279 in my paperback version of the book.

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37 thoughts on “Your Money or Your Life: The Crossover Point

  1. Madd Hatter says:

    Ah, the holy grail. My ultimate dream, but so far off it’s hard to keep the eye on the prize.

    My friends coined the term “f*** off money”, as in once you reach it, you can tell the powers that be at your job to do just that the next time they do or want something assinine (another dream of mine) and just walk.

  2. Writers Coin says:

    I kept waiting for you to gradually incorporate things like a new source of income, a higher salary due to a new job, a raise, etc. (over and above the cost of inflation) to see how much that would speed things up.

  3. Zen Novice says:

    Great post!

    I am interested to map out my own Crossover Point. Has anyone else attempted the same?

    Additionally I had a few questions on the factors:
    Income – nett income or gross income? do i also include my partner’s income too?

    Expenses – how can one predict their expenses going forward? how expensive is starting a family?

    Investment Income – at the moment i’m investing in high growth low yielding investments…so my crossover point if i’m purely concerned about investment income is going to be a long way yet.

  4. S says:

    I read this book this summer, and this concept was by far my favorite part in the book. I started a graph of my own, which I upate each month. It is a great reward to see the progress!

  5. Andy says:

    Another definition of financial freedom would be to get paid to do what you enjoy most in life.

  6. msd says:

    If I’m not mistaken, I think the crossover happens when the investment surpasses the expenses, not the income.

  7. For every 1% extra return you can generate (7% is assumed in the above estimates) you will increase your compounded return by 30% over 30 years.

    More aggressive investments, other passive income, reduced administrative costs and increased savings can all get you to the crossover point sooner.

  8. s says:

    @msd: His first examples were displaying when it crossed expenses (he captioned it wrong I think).

    @writer’s coin: I’m assuming this is including raises that are larger than inflation because the expenses line is going up at a lower rate (and I assume it is rising with estimated inflation). No idea what numbers were used for either though.

    Which leads to my actual question — what numbers were used here for raises, inflation, and investment return?

  9. Jim says:

    I have calculated my crossover point, with some assumptions, to be at age 52. I can’t imagine not working at this age though. I like my job too much, and hope I would still have lots to offer.

  10. Minimum Wage says:

    When is I > W + I? That’s a tough one.

  11. Oswegan says:

    I was getting closer to the cross over point and then my property tax bill came in the mail.

    A whopping $6800 bucks!

    I only had a $1000 saved, so now I have to stick it into my debt snowball.

    I guess I’ll wait a little longer to cross over.

    ~Oswegan

  12. Paul says:

    the only sort of odd thing about this book i that the sole investmen that is advocated is bonds. and then the authors quickly dismiss inlation without paying any attention to it….

  13. m says:

    Anyone know a simple way to estimate/calculate one’s crossover point (for the math/excel-deficient, please)?

  14. Andrew Stevens says:

    @ Minimum Wage When W

  15. lorax says:

    There’s a number of spreadsheets out there to calculate the crossover point. One that was discussed in the diehards forum recently was http://www.retireearlyhomepage.com/software.html.

  16. Khurram Farooq says:

    msd, if you want to keep up with inflation, the crossover point should be considered when your investment income surpasses your regular income (not your expenses). This way, you can continue to grow your investments alongwith daily expenses. In a sense, you can have your cake, and eat it too!

  17. Andrew Stevens says:

    Hmmm, my post didn’t complete. It should say when W is less than zero. I gather this uses html-tags and it saw the bracket as the beginning of a tag.

  18. Minimum Wage says:

    I’m not aware of any way that W (work income) could be less than zero. Apparently what I’m thinking of as W, someone else here has called “regular” income, so maybe that would be R instead of W. I think the premise was poorly formed. (grin)

  19. Kenny says:

    Trent,

    I just realized this week that I might hit my crossover point and be able to choose to “drop out and pursue other interests” before I am actually old enough to start taking withdrawals from my retirement accounts!

    Imagine how sad I will be to know I could quit but not be able to just because I was so focused on filling up the retirement savings accounts!

    Good thing I realized this today, so I can adjust certain deposits into accounts I can access earlier. 15-20 years from now, this probably won’t matter, but I’ll have the story to share about the one night I lost sleep because I thought I’d be unable to get to my retirement money and have to work for “tha MAN” extra years until “they” told me I was old enough.

    Oh, and Trent—-
    “Just by doing a few simple frugality exercises, this person can quit their job three years earlier.”

    I know you really meant to say “this person can quit HIS job three years earlier.” It’s just one person. I think the proper grammar allows you to say “his” job, but those PC folks require “his or her.” Sating “their” when you mean “his” or “his or her” is one of those things that I notice and am compelled to correct.

    Rats, I am turning into my father…

  20. Madd Hatter says:

    @ Kenny. It’s early here, and it’s been awhile, but I’m pretty sure the rule of 72t would get you around your early retirement age conundrum. It exempts you from the early withdrawal penalty if you take a series of substantially equal payments (there’s tables that give you the specifics necessary for your situation to qualify). Might want to google it.

  21. Monica says:

    Kenny – Proper grammar changes when usage change. But the singular “their/they” is not exactly new. It was used by Shakespeare, the King James Bible, Jane Austen, Thackeray and others. Good enough for me!

  22. I believe the ‘crossover point’ in the book is actually where investment income exceeds your expenses.

    It’s an exciting concept, but not something easy to achieve. To truly live on investment income you would have to be in safe investments, so this would require some large capital.

    I will set up my own chart and see how it goes. If nothing else, it should help drive home the point of why you need to cut expenses as much as possible.

  23. Debbie M says:

    Thanks for including the second graph. Real graphs do look this depressing for a long time.

    I love, love, love this concept. However, this isn’t quite how it’s going to work for me, because I have one more element that doesn’t graph well: my pension. If I quit right now, I can get a small pension when I’m sixty. Each additional year I work, I increase the size of my pension and I qualify myself to get it a year earlier. If I wait until I’m 52 to quit, I can get my pension at 52 and it will be big enough by itself to cover expenses (because my house will be paid off by then).

    Older people (at least) have similar issues with Social Security. Of course all pensions are constructs based on rules and laws which can and will change, so back-up plans are in order. Other things can change too (like bond rates, changing for the worse since this book was published). But if we keep filling this graph in, watching how things change over the years, we will acquire a lot more information on how real investments and expenses can vary over time.

  24. k says:

    Kenny, unless you have an English-language neutered single personal pronoun hiding under your hat, “their” is as close as we get. It’s not about being “PC” (whatever that means)–it’s about being accurate, since some people doing this exercise will be women, and it’s inaccurate to refer to them with a male pronoun.

  25. Mel says:

    “their” could also refer to a couple calculating ‘their’ crossover point together (say, so ‘they’ know when ‘they’ can retire to a small house in another country and still travel frequently ;)

  26. Mel says:

    I suppose though that it would have to say that “these people can quit their jobs…” anyway, I agree with another post that we need a gender neutral pronoun in English similar to those found in other languages. It would eliminate a LOT of confusion, as would having a plural form of ‘you’… my spanish speaking friends always bring up the lack of a plural ‘you’ whenever I complain about how complicated spanish is.

  27. Peter says:

    One of the things that is difficult to project on a real graph is if your expenses decrease as you get older. For example, perhaps you won’t be paying for college (either saving or spending) anymore. Or you can downsize the house once the nest is empty. The nice thing is that while you wouldn’t necessarily plan on these things twenty years out, a realtivily rapid decrease in your expenses at the time could leave you at the crossover.

    While I’m not counting on such an occurance (with my luck at least one of the kids will move back home with grandchildren :-) if it does happen, it would be nice. At that point you could either really turbo charge the investments or go ahead and retire early. The ability to make the choices is what’s appealing.

  28. Andrew Stevens says:

    @Minimum Wage Ah, I didn’t correct your equation. Your equation should have read I > W, not I + W > W. That’s the formulation in the Crossover Point (though people have correctly pointed out that what was meant was I > E).

  29. Kenny says:

    Madd hatter, thank you for your advice, I’ll file it in the old memory bank and see it it holds up.

    Trent, apologies for hijacking the comment section with the grammar debate. Mel has the best response I think. Others are complaining that “so-and-so does it, so it’s okay.” That logic is the reason people are saying “I could care less about that.” But don’t get me started on that whole can of worms. People misused the term “I Couldn’t Care Less” so much that grammar experts just raised the white flag and said “fine, if you people want to come across as uneducated and stupid, go right ahead!”

    But that Crossover Point really is an eye opener of an idea to ponder. Keep it up!

  30. k says:

    no, Kenny, that’s not my reasoning. Did you read my reasoning, or did you misunderstand it?

  31. Stella says:

    I’m not sure if I’m at the crossover point. The gain in my investments has exceeded my income for the last couple of years, but the gains are increases in fair market value of the investments and not actual income such as interests or dividends. Considering that the stock market can give up the gains anytime, that means I’m not really at the crossover point, correct? What do you think?

  32. Kenny says:

    k, I remember learning the rules of the English language, if that’s what you’re trying to explain.

    A singular person can not be referred to as “they,” no matter how fat he or she is.

    People, however, can be referred to as “they,” no matter how skinny they are.

    If you are talking about one single person, the pronoun “he” is sufficient to cover “he or she” if you’re too lazy to type “he or she,” just as “man” or “mankind” also included women.

    Of course, nowadays you don’t want to offend anybody, particularly those who don’t know these basic facts. Enter the nebulous and incorrect “they” when we talk about one single person.

    When I write about a random anonymous person, he is referred to as “he” because that’s proper use of our language.

    Actually, when I write about a random anonymous person, I always make it more than one person so I can use the word “they” and avoid having to offend the sensitivities of other people who for whatever reason despise the pronoun “he.”

    Trent, you’re doing a great job.

    I absolutely love the Internet because anyone can use it, no matter how uneducated he or she is.

    Reason enough?

    :-)

  33. Mark says:

    A friend of mine hit the crossover point – he quit his job and moved home with his parents. Therefore he had zero expenses and zero income – CROSSOVER….HAHA Thought the discussion needed some humor. This is a true story though.

  34. Stella says:

    I agree with Khurram Farooq. I used a fixed investment rate of return at 5% at retirement and determined at what point that income will surpass my regular employment income to determine my cross over point. It’s 60 years old! But at that point, my retirement savings will never run out (assuming annual inflation at 3%).

  35. Matt says:

    I started my chart five months ago and look forward to the end of the month when I can tack on another few points.

    I haven’t attempted to calculate my crossover point as there are too many unknown variables at such an early point in time, but I might try playing around with it at the end of this month just for fun.

  36. telly says:

    I think the crossover point happens when *income produced by* investments (passive income), not investment earnings equals expenses. I’m not sure what kind of investments produce 7% yield (not gain).

    Am I missing something?
    My investment yield is barely a blip on my graph!

  37. Get Money says:

    Quick comment

    If a person has good financial intelligence, the gap between income and spending should be MUCH larger in your graph. Income should be at LEAST double someones spending.

    Secondly, income should be going UP and spending should be going DOWN a lot more than in your graph.

    It’s entirely possible to reach crossover point within 5 years (10 years max) once you adjust your figures and graph to reflect the factors I’ve mentioned.

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