3 Major Milestones to Financial Independence

3 Major Milestones to Financial Independence

The journey to financial independence is a long and difficult road for regular people like you and me. After 25+ years of saving and investing, we achieved financial independence. Our passive income exceeds our expenses, but it is precarious. The last few years have been tough on our passive income. Our dividends income decreased because some companies cut dividends. Our rental income also got hit due to Covid. Fortunately, our real estate crowdfunding investments helped fill in the gap nicely. We also reduced our expenses so that helped as well. Now, I want more margin in case the economy goes south again.

So how did we achieve financial independence? We never had any big windfall so our wealth was built solely on our income. We had to build our passive income from the ground up. Also, we reduced our spending quite a bit over the last few years. The average US household annual expenditure was $61,334 in 2020 according to the Bureau of Labor statistics. That year, we spent $40,030. That’s 33% less than average. Our big 3 expenses (housing, transportation, and food) are much lower than average by design. You can read about how we minimized our big 3 expenses here.

Anyway, many of you are slowly working toward financial independence. There is a beginning, middle, and end to this journey. Let’s take a look at these 3 major milestones to financial independence.

*Written in 2015. Updated in 2022.

1. Spend Less Than You Make

Spending less than you make is the first step on your journey toward financial independence. It sounds simple, but it’s difficult for many people. Let’s look at our son for example. He is 11 years old and won’t be making any meaningful income until he graduates from college. Hopefully, he won’t have a lot of student loan debt, but that’s unusual these days. Many young college grads have to make loan payments and it’s tough.

It can be difficult to spend less than you make even when you have a high income. A lot of people fall into the consumerism trap and spend more than they can afford. Luckily, we always lived within our means and rarely spend more than we make. Hopefully, we’ll be able to impart this important step of the journey to our son by the time he is a young adult.

Here are the important steps in this first milestone.

  • Find a way to make a decent income. The easiest way is to get an education in a well-paying field and work hard to get ahead. Starting a business and side hustling are also great ways to make money and gain experience. Although, a college diploma is no guarantee these days. Life is tougher for the kids!
  • Live frugally when you’re starting out. Most of us lived through the starving student phase. We rarely spent money on entertainment and luxuries when we were students and we still had a lot of fun. You need to keep that habit for a while after you landed a well-paying job. Don’t spend all your income like many young people do.
  • Pay off all consumer debt. Those high-interest consumer debts are a huge drag on your wealth-building progress. It’s like trying to run with those training parachutes. You can do short sprints, but it’s impossible to run a marathon with debts hanging over your head.
  • Start investing as early as possible. It’s not enough to save, you need to invest, too. Most young people won’t be able to invest much, but they will gain invaluable experience as the stock market goes through the boom and bust cycles. It takes a long time to formulate an investment strategy that you will be comfortable with. The earlier you start, the better off you’ll be.

2. Invest more than you spend

Spending less than you make is just the first step to financial independence. If you want to get there quicker, you will need to invest a sizeable portion of your income. Most financial advisors advocate saving between 10 to 20% of your income. But that isn’t enough. It will take you 40+ years to reach financial independence.

Instead, I encourage you to invest more than you spend. This is a tall order for most people because the gap between income and expense is usually very small. Most people spend almost all of their income, that’s why the US personal saving rate hovers around just 5%.

We have been investing more than we spend for many years now. I had a good income when I was an engineer and we lived a modest lifestyle. It was easy to save more than we spent. We continue to save and invest more than we spend even after I quit my engineering career in 2012. Mrs. RB40 is still working and we continue at a slower pace. If you invest more than you spend, you will reach financial independence in a reasonable timeframe. This is one reason why it’s important to track your income and expense. You can use your annual expense as a baseline for your financial independence calculation.

Here are some pointers on how to surge pass this milestone.

  • Increase your income. It’s much easier to invest more than you spend if you make a decent income. If you can barely pay your monthly bills, then you should concentrate on increasing your income first.
  • Take advantage of the tax-advantaged accounts. We have been maxing out our 401k and Roth IRA for years. This helps defer tax and the compound interest will add up over the years.
  • Minimize lifestyle inflation. It’s easy to spend more when you get a raise, but you should take the long view and invest most of that instead of spending it.
  • Buy income-generating assets. Your home isn’t an investment, it’s a liability. You’re spending a lot of money every month to live there. Almost everything you own is depreciating.
  • The stock market and rental properties are proven investments. The income they generate should increase over time and beat inflation. These two investments are great ways to generate wealth.
  • Reinvestment counts. We reinvest most of our investment income. That’s the basic concept of compound interest. As your investment income increases, it becomes easier to invest more than you spend.

3. Passive income exceeds expenses

This is the last step to financial independence. Once your passive income exceeds your expense, then you’ve made it! Unfortunately, most people never reach this point. They either spend too much or didn’t invest enough to generate enough passive income. Of course, there are other sources of passive income such as Social Security benefits and pensions. Those are great, but our generation can’t really count on them anymore.

In 2020, our passive income exceeded our expenses by 20%. That was great! It took us years to get here.

Here are some things to keep in mind while working toward this goal.

  • Keep at it. The journey to financial independence is a marathon. It will take most of us 15 to 20 years to get there even if you’re dedicated. Keep at it and eventually, you will get there.
  • The cost of living can make a huge difference. We kept our spending pretty low while increasing our passive income. If you can do this, it will make this milestone much easier to achieve.

3 Major Milestones to Financial Independence

So those are my 3 major milestones on the journey to financial independence. They might seem difficult, but we have to remember the journey can take many years. Even reaching the starting point (spend less than you make) already will take up a major portion of our lives. I didn’t get there until I was 22. If we are diligent, the 2nd and 3rd legs of the journey will be much shorter than that.

Of course, you’re not quite done even when you reach the 3rd milestone. You need to be vigilant so you can make adjustments as needed.

What do you think of these 3 milestones? Where are you on the journey to financial independence?

Passive income is the key to early retirement. These days, I’m investing in commercial apartments with CrowdStreet. They have many projects across the United States. Go check them out!

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Joe started Retire by 40 in 2010 to figure out how to retire early. After 16 years of investing and saving, he achieved financial independence and retired at 38.

Passive income is the key to early retirement. This year, Joe is investing in commercial real estate with CrowdStreet. They have many projects across the USA so check them out!

Joe also highly recommends Personal Capital for DIY investors. They have many useful tools that will help you reach financial independence.
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25 thoughts on “3 Major Milestones to Financial Independence”

  1. I apologize if you have already answered this, but where do you store your money that you use for large purchases like real estate crowd funding, while you are building up the funds to purchase items. Do you leave it in savings at a low interest rate, take it out of your stocks or something else?

  2. Yeah important milestones but I think it’s time to talk about the elephant in the FIRE room. The psychology of FIRE and the ever growing sub-group of FIRE called the Sad-FIRE of people sacrificing way too much in the name of FIRE. No friends, no house, unsafe old car, no relationship, living with parents miserably all in the name of FI. Totally unhealth but for many of us it’s a binary choice, sacrificing everything or spending everything, the most natural way for people is to go one way or another, no middle ground. Thoughts?

    • Sad-FIRE? I never heard of that. The whole point of FIRE is to improve your life.
      If you aren’t happy, then there is no point in doing it.
      I’m reading Designing Your Life. It’s a good book that might help.
      You have to figure out what the real problem is. There are many solutions to life’s problems.
      Many people are fixated on the first solution they found. Anyway, FIRE isn’t the right solution if it makes you unhappy. Check out the book. It’s good. I’m half way though right now.

  3. “Until I was 22” I’d say you were already way ahead of the curve by budgeting at the age when many are not even so aware of their finances!

    And don’t underestimate the value of an emergency fund. Health issue, legal issue, or housing repair can come up in an instant.

  4. Hi Joe – I think this is a great way to put it since it breaks it down in only 3 steps.
    I had never thought of step 2 as “invest more than you spend”, but I agree that this is probably the best way to accelerate one’s progress and a good target to aim for.
    I am currently half-way through step 2 and from what I see, those 3 steps are of exponential length: Step 1 actually took me only a few months, Step 2 will likely take 5-7 years and Step 3 should hopefully last 40+ years 🙂
    So as you said, it is important to start early because the journey takes time, and time is the best friend of investors looking for financial independence!

  5. We have enough in savings and retirement to pay off the house, but we still have a mortgage at 3.75%. Should we let the money compound for the next 15-20 years or pay off the house ?

    • It’s really up to you. I’m incline to keep our mortgage to help with the tax deduction. Mrs. RB40 prefers to pay it off so our monthly expense will be lower. We’re keeping it for now, but may pay it off once she stops working. We won’t need the tax deduction then. I’d rather invest in dividend stock than pay it off. We’ll see.

    • Hi Cali – I’ve had the same discussion with my wife the other day and we concluded we will not make any early payment on our house.
      Our thinking has been that we can either invest in the house or invest in other assets classes (stocks, another rental, peer to peer lending, …) and the return on a primary residence isn’t great because it doesn’t generate cash (or savings) until completely paid off.
      There can be strong personal preferences to be debt-free, but from a financial perspective, we found that if we could invest in assets that return ~6%+ long term (eg. peer to peer lending, rentals), since we won’t stop working soon it made sense for us to keep the cheap debt and invest the difference for the next 30 years.

  6. Simple things matter. For example my employer pays nowadays my home internet connection because I occasionally work from home. They did it simply by asking.

  7. Love the article. Thought I had read something about spend less than you invest recently and decided I remembered incorrectly. I’m still stuck on step 1 and looking forward to 2 and 3.

  8. Speaking about an invested portfolio that enables passive income of 4% has a risky built in bug. I was about a single year from FI back in 2007. The year after, 2008, was very ugly and pushed my portfolio 35% down. I was lucky that I still had my job so I was able to keep my shares and not forced to sell them at low prices. It took my portfolio long five years to recover.
    In 2013 I retired. If there is one thing that I learned it is that I must have some cash aside so I use it and not have to sell shares when prices go down. I now have cash ready for a market bust of 5 years. I hope it will help me to bypass the next coming slowdown that for sure will come, sooner or later. I hate to think that I’ll have to go back to work…

    • That is a big issue. I glossed over it by saying you need to be vigilant and adjust accordingly. You really need a cushion or you need to be willing to work part time. Cash for 5 years is a lot of liquidity, but you are very secure now. Enjoy your retirement!

  9. Totally agree with all 3 of these milestones. The first milestone should be easy to accomplish for most people. The 2nd one may be slightly more difficult if your income level is not too high to start with. After all, there are only so many expenses you can cut off before you deprive yourself from a good quality of life. The 3rd milestone of having more passive income than your expenses will take time, that’s why power of compound interest is our best friend.

  10. I think this is a good way to look at progression towards FI, but my own scheme was based on investment portfolio net balance rather than income/outgo flow rates. The milestones I used were when net financial worth hit 1 quarter, 1 year, 3 years, 10 years, and 30 years of living expenses, at which point you graduate to FI. Exactly when you can reach these milestones depends upon your spend rate, wage growth, and investment returns. For example if you spend a flat 80% of initial net income and see net wage growth and investment returns of 5% per year each, you can hit these points in 1/3/6/13/20 years. Reducing your spend to a flat 50% of initial net income gets you to the finish line in only 13 years.

    In my case after finishing school, I decided to stick with my grad student living standard. I recall my early work years had a 2:2:1 split for deductions (including taxes):savings:spending. So the 1 quarter and 1 year milestones I passed during my first year of work, and I reached 3x after 18 months. Promotions and raises got me to the 10x milestone after another three years work, and the 1990s bull market took me to 30x five years after that. During that entire time my living standard stayed flat while wage income was rising fast. So I suppose if I was willing to retire into a permanent grad student living standard, I could have done it after 9 years of work.

    By your metrics, I was both spending less than I make and investing more than I spend starting with my very first paycheck after finishing school. Passive income for me was mostly unrealized capital gains because I was avoiding interest and dividends for tax reasons. If we estimate this to be 4% of net portfolio balance, that was also at the nine-year mark for me.

  11. Those steps make sense to me!

    I might add a step 1B or 2A that might not apply to everyone. Pay off all bad debt, or phrased another way, get to zero. Then the real savings can start in earnest.

    • I forgot about debt. Thanks for the reminder, I added it to the main article. I finished this very late last night. Too many things going on this month. 🙂

  12. Joe I totally agree with your three milestones. I believe it is critical that we teach our kids at an early age about the concept of financial independence and how important it is to achieve it as early as possible. Most advisors do not preach the benefits of FI they focus on saving for retirement which is difficult for a young person to get very excited about as it is so far away for them. Getting a good job that pays well is important but it should be work that you enjoy and have an interest in. Working at a job that pays well but you hate is not the way to go. Lifestyle inflation is a big threat and needs to be understood if you wish to achieve FI early. It’s human nature to feel that we should be rewarded for a new promotion etc but that reward comes at significant cost. Achieving FI is a great achievement but people need to also plan for what they intend to do with their time after FI. For me some degree of work plays a part (I’m still trying to figure out the right balance) but it is work that I enjoy on my own terms. The extra cash flow from my “playcheck” is used to pay for all the adventures I have planned for the years ahead.

    • You’re right about FI. It’s much more exciting than retirement. Nobody care about retirement until they’re in their 40s and 50s. You can get excited about FI right from the beginning.
      Lifestyle inflation is a huge factor. Having FI as a goal really helps you put a lid on it, though. Most people don’t have the long view because they don’t have FI as a goal.

  13. This seems like a great way to break it down. We are definitely fairly far along, about two years away from pulling the plug. We had a good opportunity about a year and a half ago to buy a rental property, and we are happier and happier about that every day. Right now we’re still paying the mortgage on it so it doesn’t generate a lot of cash flow, but we know that it will in just a few years, which gives us great peace of mind. We’re working hard on the investments, too, of course, but knowing we’re not totally reliant on the stock market is a huge comfort!

    • Two years will be gone in no time. That’s really close. Great job with the rental property. Our duplex is turning out much better than I thought. I didn’t think it would generate much cash flow, but rent is increasing so much in Portland. I think in a few years we’ll get very nice cash flow from there. It’s nice to have 2 diverse investment income.

  14. Hi Joe, awesome picture of your son! He certainly knows what victory is. 🙂

    This is a great post because it reminds me that even though I took an early retirement, I’m still running the FI marathon. Building the passive income to cover expenses has been more challenging that I originally anticipated. I’d say we’re only 35% of the way there. Net Worth is cool, but cash flow is still King! Good thing my wife loves her job. 🙂

    • Thanks! I need to find the full size picture and make a Pinterest friendly image. I finished this article very late last night. 🙂
      Good luck on your journey. 35% isn’t bad at all. I’m sure you can convert your net worth to cash flow. You are way ahead of most people.

  15. Hey Joe, greetings from Germany and thank you for this interesting article! I loved it because it sums everything up, we started to invest in dividend stocks and to cut our costs in the sector of cellphone and insurance . Wish us luck 🙂

    • Greetings! You’re starting off great. Keep working on it and you’ll get there someday. Good luck on your journey to financial independence.


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