Highlights:
- Financial independence is a broad term, but it mostly boils down to no longer needing to work to earn money and having the ability to live off your savings.
- Financial independence has many benefits, including the ability to retire early and live the life you’ve always dreamed.
- Becoming financially independent starts with setting a firm budget, living by that budget, and getting rid of your high-interest debts.
People often strive for all types of independence in their lives, and a common goal is financial independence. Once you achieve financial independence, you no longer worry about working to earn a living and focus on doing what makes you happy.
Continue reading to learn what financial independence is, how to achieve it, and why it’s so beneficial.
What is financial independence?
Financial independence can mean different things to each family, but the consensus says it’s when you no longer need to work to support yourself. Essentially, you’ve built up enough savings to live off of or can live off the interest that savings generates.
For example, say you have $40,000 in annual living expenses, have saved $1 million, and average a 4% return on that savings annually. You earn $40,000 in interest annually, meaning your expenses are covered, and you’ve now achieved financial independence.
As we mentioned, though, financial independence is a personal thing, so different opinions on it exist. According to a Savant Wealth survey, 65.35% of respondents agreed with the above definition of financial independence. However, others felt financial independence meant:
Having enough money to spend how they want without feeling guilty
Being debt-free
Having enough in their savings to equal 25 times their annual spending
Despite these variations in the definition of financial independence, one theme is consistent: You’re free to do as you please within your budget, whether you choose to go to school, start a business, travel the world, or sit on a beach.
How do you achieve financial independence?
Now that you understand what financial independence means, it’s time to figure out how to achieve it. Each family’s path to financial independence will differ slightly, but these nine tips will help put you on the right path toward becoming financially independent.
1. Set your goals
Start your path to financial independence by setting up life and personal finance goals. Sure, your overarching goal is to become financially independent but focus on the smaller, more bite-sized goals that can help feed your long-term goal.
When setting goals, it’s important to ensure they are attainable and have a realistic deadline. By setting goals that are too aggressive, you may miss your targets and get discouraged.
Some examples of small but meaningful goals include:
Maxing out 401(k) contributions
Investing 15% of take-home pay
Paying off credit card debts
Investing 100% of any bonuses
2. Set a budget to live below your means
Probably one of the most important first steps in becoming financially independent is setting a budget. A budget helps you keep your spending on track and build your nest egg.
Look at your family’s monthly income compared to your monthly expenses to determine if you have extra money after covering all your current spending. If so, that’s a good start. Then, see if you can tighten things up further by cutting unnecessary expenses, so that you have even more money left over each month.
You may realize during this exercise that you don’t have money left over after expenses or you’re spending more than you earn. You’ll then want to find ways to adjust your expenses so you have extra money after expenses. Another option is to pick up a part-time job or start a side hustle to help you get ahead.
You can create and monitor your budget in various ways. You can invest cash into an advanced online budgeting app that automates most tasks, simplifying the process. But you can also go a simpler route, such as old-fashioned pen and paper or the envelope method.
3. Get out of debt
After you’ve set up a budget and trimmed expenses to the point where you have some surplus, use that leftover cash each month to pay down your credit card debt and any other consumer debts you have.
Paying off your debt will help to lower your monthly expenses, freeing up more money for your savings or investment strategy.
4. Create an emergency fund
A large part of financial independence is not worrying about cash when a financial emergency strikes. This is where an emergency fund — typically three to six months of living expenses — can help. If your family experiences a job loss, illness, or any other emergency that impacts your cash flow, this fund will help you cover it.
You can build your emergency fund by channeling some of your surplus cash each month into a savings account until you reach a three- to six-month balance. And then, just let the money earn interest in a savings account until you need it.
5. Invest for retirement
With all your budgeting, debt repayment, and savings planned out, it’s time to start investing for your retirement. The rule of thumb is to invest 15% to 25% of your take-home income.
One option is to take advantage of any retirement plans through your employer. If you’re a full-time employee, your employer may offer a 401(k) plan that allows you to invest in the stock market with pretax dollars.
Plus, your employer may contribute to your 401(k) through a matching program. For example, they may match 100% of your contributions up to 5% of your salary. So, if you earn $50,000 per year, your employer will match up to $2,500 of your contributions annually, which is essentially free money.
Another retirement plan option is an individual retirement account (IRA).
6. Help your kids save for college
Financial independence can be generational too. You can spread the cheer of financial independence to your kids by setting up an educational savings account (ESA), 529 savings plan, or another account to help them pay for college without resorting to student loans.
This will allow them to get the education they need to land a good job without going into debt, setting them up on a path toward financial independence as well.
7. Pay off your home early
Your mortgage payment is typically one of the biggest expenses every month. Imagine how financially liberating it would be to no longer have that payment.
You can pay off your mortgage early with a wide range of strategies, including making two payments a month, an extra payment a quarter, or just adding a little extra to every monthly payment. Those extra payments can add up quickly and knock years off your loan term.
8. Create passive income
Passive income is cash flow that comes in without you having to spend much time working to earn that money. Some examples of passive income include rental properties, annuities, stocks and mutual funds, bonds, and even affiliate marketing.
9. Hire a financial advisor
A financial advisor can help you make investment and financial planning decisions that are specific to your family’s situation and goals. Since there are risks with investing, it’s good to have the guidance of a professional.
What are the benefits of financial independence?
Financial independence comes with a number of benefits, including:
You can consider early retirement: Once you’re financially independent, you don’t have to retire. If you absolutely love your job, you can continue working until you’re ready to hang it up. However, being financially independent presents early retirement as an option because you no longer need your income. This is a big driver in the FIRE movement (financial independence, retire early).
You may have less stress: Money is a common stressor for people, but once you’re financially independent, this stress is removed from your mind. You know you're fine if you lose your job tomorrow or have a financial emergency. That peace of mind is invaluable.
You’re the boss: Once you’ve achieved financial freedom, you are the boss of your life. You can live all the dreams you’ve had, such as diving into a hobby full time or traveling the world. It’s truly a liberating experience.
Your path toward financial independence can start today
You can start on the path of financial independence by creating a budget and trimming expenses so you have extra money each month. From there, you can start getting out of debt, saving, and investing to help you meet your goals. Once you’ve attained financial independence, you’re free to do what you love and live your life how you choose.
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As a seasoned financial expert with a deep understanding of the principles of financial independence, I'd like to delve into the key concepts highlighted in the article. Financial independence, a multifaceted term, essentially signifies the state where an individual no longer needs to work actively to support their lifestyle, relying instead on accumulated savings and investments. The benefits of achieving financial independence range from early retirement options to the freedom to pursue one's passions without the constraints of financial worries.
1. Definition of Financial Independence:
- Financial independence varies in interpretation, but a common consensus is when one has accumulated enough savings to cover living expenses or can live off the generated interest.
- The article presents a scenario where an individual with $1 million in savings and a 4% annual return achieves financial independence by covering $40,000 in annual expenses with interest earnings.
2. Varied Perspectives on Financial Independence:
- The article highlights diverse opinions on financial independence, including notions of guilt-free spending, being debt-free, or having savings equal to 25 times annual spending.
- The consistent theme is the freedom to live within one's budget and pursue personal goals.
3. Steps to Achieve Financial Independence:
- Setting clear and realistic goals is emphasized, including maxing out 401(k) contributions, investing a percentage of take-home pay, paying off credit card debts, and investing bonuses.
- The foundational step involves creating a budget to live below one's means, ensuring that there is surplus income to save and invest.
4. Debt Management:
- Getting rid of high-interest debts is crucial in the journey to financial independence. The article suggests using surplus cash to pay down credit card debt and other consumer debts.
5. Building an Emergency Fund:
- An emergency fund, equivalent to three to six months of living expenses, is highlighted as a crucial aspect of financial independence. This fund provides a safety net in case of unexpected financial emergencies.
6. Retirement Planning:
- Investing for retirement is a key component, with a recommended range of 15% to 25% of take-home income. The article suggests utilizing employer-sponsored retirement plans like 401(k) or individual retirement accounts (IRAs).
7. Generational Financial Independence:
- The article introduces the idea of passing on financial independence to the next generation by setting up educational savings accounts or 529 savings plans for children's college expenses.
8. Paying Off Mortgage:
- Early mortgage payment is presented as a strategy to achieve financial liberation by eliminating one of the significant monthly expenses.
9. Passive Income Streams:
- Creating passive income is highlighted as a means to achieve financial freedom, involving sources like rental properties, annuities, stocks, bonds, and affiliate marketing.
10. Seeking Professional Advice:
- The article suggests hiring a financial advisor to make tailored investment and financial planning decisions based on individual circ*mstances and goals.
11. Benefits of Financial Independence:
- The benefits include the option for early retirement, reduced stress, and the ability to lead a life aligned with personal aspirations once financial worries are alleviated.
In conclusion, the path to financial independence involves a strategic combination of budgeting, debt management, savings, investments, and planning for future generations. The article provides a comprehensive guide, offering valuable insights for individuals seeking financial freedom.
