Financial Freedom is often a misunderstood concept. We tend to confuse it with being ultra-rich. You don’t have to be in the top 1% or 2% to achieve it. Depending on your lifestyle, you can get there with a lot less also. So, the definition of Financial Freedom may vary for different people. Here in this article, I will try to summarize the key concepts of financial freedom and provide a practical guide on how you can get there.
What is Financial Freedom?
Financial freedom is the state of having enough wealth to live on without having to actively work for a paycheck. This typically means having enough passive income to cover all your living expenses, so that you can live the lifestyle you want without being constrained by your income. You get to spend your time doing things you like rather than working to earn a living.
Financial freedom may mean different things to different people. For some, it may mean having an abundance of wealth and not having to work anymore. For others, it can mean having enough wealth to fulfill their goals, spending time on things they like, and not feeling overworked at their work.
No matter which side of this spectrum you belong to, a few basic things always remain the same. You need to understand what are the different phases of financial freedom. This will help you assess your current state and give you an idea of where you need to go. Then certain thinking models can help you reach your goal. Once you have the right mindset and clear goal, no one can stop you.
What are the Stages to Financial Freedom?
There are 7 stages to financial freedom, every person must go through these stages to achieve financial freedom:
1. Clarity
To begin the journey towards becoming financially free, you must be very clear about your current financial situation and what your goal should be. For example, suppose you currently have $10 in your savings, and you need to have $1M to be financially free. That clarity you need to have. We will discuss about how to come up with your goal amount in the subsequent points.
2. Self-Sufficiency
At this stage, you can bear your expenses without taking monetary help from anyone. Here, if your monthly income is INR 20,000, your monthly expense is also INR 20,000.
3. Breathing Room
At this stage, you have saved enough money to bear your expenses for the next 2-3 months, so that even if you are fired from your job tomorrow, you can survive couple of months. That gives you some breathing room to plan.
4. Stability
This is the stage where you have paid all your debts and saved enough to sustain yourself for the next 6 months.
5. Flexibility
At this stage, you have saved expenses for next two years.
6. Financial Independence
This is where you have accumulated enough wealth and made enough investments that you don’t need to work anymore to cover your expenses. Returns from your investments and savings can support your lifestyle for your lifetime. At this point, you don’t have any financial liability. You work on something purely out of interest or pleasure and not to earn a living.
7. Abundant Wealth
At the final stage, you have accumulated so much wealth that you cannot even spend it in your lifetime. Now, you just have to live your life, spend time with your family, and pursue your hobbies.
How to Achieve Financial Freedom? 5 Thinking Models:
Now that you have understood all the different stages of financial freedom, the obvious question that will come to your mind is what you need to do in order to become financially free. For that, I will share some of my favorite thinking models that you can use.
1. Time is more valuable than money
Would you trade your youth with an old person for $1M? I certainly would not. What will I do with $1M if I am 90 years old? This is how you should think as well.
Rich people take decisions in terms of money and not on basis of time. It is very important that you figure out your per hour income (Per hour income = monthly income/monthly working hours). Now, if your per-hour income is $20, does it make sense to spend 2 hours browsing through the internet to look for a $2 discount on your hotel booking?
Knowing your hourly value is key to making better decisions. You should look for ways that save time. So, before engaging in any activity, don’t think only about how much money you need to invest, think also about how much time it will require. So, it is better to save time instead of spending hours looking for discounts. Utilize that time to do something productive.
2. Find the amount you need to accumulate to become financially free
How much money do you need to become financially free? According to Trinity Study, if you accumulate 25x of your annual expense and invest it in a growth instrument (like an index fund), then you can withdraw 4% annually from that fund and never run out of cash in your lifetime.
For example, suppose you need INR 1 lakh every month to live comfortably. We want it to grow yearly as inflation rises. So, yearly we need approximately INR 12 lakh. Now,
12 lakh X 25 = 3 Crore
Now divide the 3 Crore rupees into two halves. First INR 1.5 Crore you can invest in a Fixed deposit, and for the remaining INR 1.5 Crore you can invest in an Index fund. You can use the fixed deposit money to for next 12 years till it ends. By that time, your INR 1.5 Cr Index fund should grow to 8 Cr (Considering a 15% annual return over 12 years). Again, divide the 8Cr into two equal parts. First INR 4 crore will go to your bank FD, the remaining INR 4 Crore you can invest in a Index fund for next 12 years. This cycle keeps on repeating.
25X of your annual expense is an approximate amount that can make you financially free.
3. Compounding can make you financially free earlier
To become financially free, you need to accumulate money faster. To do that, you need to maximize your savings now. Invest that money to compound over time. Now, this might sound conflicting with the 1st point, where we said time is more valuable than money. So, what I want to tell you is that, you don’t need to look for saving money for everything. Instead, you can save money on the key areas where an average consumer tends to spend the most. You can also look at the Frugal living tips to find out more ways to save money.
3 main areas where you can save money:
- House: If you can manage to live in a simple house, or a rented house, or live in a relatively remote place for few years, you can save a lot of money.
- Car: You don’t need a luxury car to start with. Buy a simple car that you can afford, or get a secondhand car. This will save you a lot of money
- Food: Instead of going out every other day to hotels and restaurants, you can cook and eat at home. This will save you a ton of money.
Invest the money you are saving and let it compound over the next 10-20 years.
3. Make money with side business
To reach your savings goal faster, consider starting a side business along with your primary job. In todays world there are plethora of opportunities to explore. You can-
- Start a YouTube channel
- Start a Blog
- Earn from renting out your properties
- Start freelancing work
- Sell foods
- Develop an App
- Start teaching
And many more. Having a passive income source helps you generate additional income that accelerates the whole process.
You can refer to the 10 passive income ideas article to explore more ideas.
5. Learn to sell stuff
In any business, Sales is the most important function. Selling stuff is a critical skill that you need to master if you want to become rich. You can get products from anywhere, hire employees to manage your business, but selling is something that you should know yourself. Read from various books, keep an eye on your competitors, and master the game of sales. That will take you a long way.
Key Takeaways:
Financial freedom is the state of having enough wealth to live on without having to actively work for a paycheck
- Financial freedom is the state of having enough wealth to live on without having to actively work for a paycheck.
- You need to go through 7 stages to achieve Financial Freedom:
- Clarity
- Self-Sufficiency
- Breathing Room
- Stability
- Flexibility
- Financial Independence
- Abundant Wealth
- Whenever you are getting engaged in some activity, find out if the value is more than your hourly value or not. If not, use that time to do something productive instead.
- 25X of your annual expense is an approximate amount that can make you financially free
- Save money on your big expenses like house, car, and eating out. Invest that money to compound over time for 10-20 years.
- Consider starting a side hustle along with your primary job to generate multiple sources of income so that you can reach your goal much faster.
- Learn to sell stuff.
Hope you learned something today. Would love to hear your thoughts in the comments.
