All of us dream of attaining financial freedom, but only a few of us will ever get there. What’s financial freedom, you ask? It’s a bit different for everyone. To me, financial freedom means I can enjoy a comfortable life without having to work or worry much about money. I’m not there yet, but in 5 to 10 years our passive income should cover our cost living. We’d need a bit more time to build up a cushion to account for inflation and that would be financial freedom for us. Mrs. RB40 will be able to retire without any worry at that point.
Financial Freedom Formula
How do you attain financial freedom? It’s easy; you need to generate passive income. For most of us, this means investing. It’s easy in theory, but you would need to invest a lot of money to generate enough passive income to cover your cost of living. The personal saving rate of Americans is around 5%. This statistic is pretty dismal and it is exactly why so few of us will reach financial freedom. You need to increase your saving rate so you can invest more.
Saving = Income – Expense
1 – Grow your income
Here is the first path to financial freedom – grow your income. This is pretty obvious. If you make more money, then you’ll have a better chance of saving more. The tough part is that it’s difficult to grow your income. Here are a few ideas.
- Accomplish more at work and get promotions and raises
- Actively seek better job opportunities that offer more pay
- Get advance degrees or certifications to increase your pay
- Change career if you’re in a low paying field
- Start a business
- Work on the side
- Rent out a spare room
- Learn about investing
Steve Chou from My Wife Quit Her Job is a great example of this. He is making good income from his day job. He and his wife have an online store that generates over $100,000 per year. He also has a popular blog, podcast, and a great online course that generates over $100,000 per year as well. Wow, Steve is raking it in! If he keeps his spending reasonable, he’d be able to save and invest a lot of money every year. I’m sure he’s on track to reach financial freedom very soon if he’s not there already.
2 – Live a frugal lifestyle
Of course, not everyone is as good as making money as Steve. I think you should keep trying to increase your income, but if you can’t then you need to focus on the expense side of the equation. While not everyone can make a lot of income, everyone can learn how to live more frugally. Living frugally doesn’t mean you have to eat ramen noodles every night, you just need to spend significantly less than you make so you’d be able to save and invest more. A 5% saving rate isn’t going to cut it. You’d need to save at least 30% of your income to reach financial freedom in a reasonable timeframe.
Personally, I’m much better on the frugal side than the making more money side. Luckily, I made decent income for 16 years as an engineer. We lived a modest lifestyle and invested a significant chunk of our income every year. That enabled me to leave my engineering career behind and live life on my own terms. Even now when I don’t make much money, we are still able to save over $50,000 per year. Here are some ways that we save money.
- Cook at home
- Share one car
- Take public transportation
- Live in a modest home
- Delay purchases until we’re sure about them
- Use Republic Wireless instead of more expensive cell phone plans
- Cut my own hair and the kid’s (for now)
- Try to fix broken things myself
- Ignore the Jones
- Live in a mixed income neighborhood
- Seek out free or cheap entertainment
8 Tips to Help You Live Within Your Means
3 – Create Something Valuable
Lastly, there is the unconventional way. You’ll have to figure this one out for yourself. One example is Ernie Zelinsky. He semi retired when he was 31 with a negative net worth. He didn’t actually start saving for retirement until he was 40 years old. He used his creativity and wrote many books including The Joy of Not Working and How to Retire Happy, Wild, and Free. Now, he is making more from book sales than most people from their day jobs. Ernie was able to leverage his creativity and achieve financial freedom on his own terms. I’m sure if it’s important enough for you, you can come up with something too.
- Mr. and Mrs. Frugal Woods are planning to go homesteading in a few years.
- Mr. Money Mustache blogged once a week and became a sensation. I’m sure the site is making a lot of money. He also is a one-man house building company.
- JD Roth blogged about his finance and it became Get Rich Slowly, one of the early successful personal finance blog. The income from the site eventually eclipsed the salary from his day job and he sold it for a nice 7 figure sum. These days he’s giving interviews and works on whatever he wants.
- Many people achieved financial freedom through rental properties. This is a great way to go if you can handle being a landlord. I think everyone should try this one out to see if they can make it work.
Financial Freedom isn’t that difficult
When it comes to financial freedom, you have to go with your strength. If you are good at making money, then work on increasing your income. If you’re good at living frugally, then focus on minimizing lifestyle inflation. Of course, most of us will fall somewhere in the middle. The key is to grow your saving so you can invest more every year. The more you can invest, the faster you will achieve financial freedom.
The third path is definitely interesting. If you think outside the box and have the courage to follow your creativity, then good things might happen.
How will you achieve financial freedom?
Image by zak suhar
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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For my family I think it is going to be more 1 than 2 or 3. I wish we could supercharge 1 by decreasing spending in 2 and while we are better than the average family we don’t come CLOSE to the PF Superstars out there.
In our journey towards financial independence, a big component has been debt elimination. We got rid of every ounce of consumer debt and in the process of doing everything we can to pay off our house early. In our estimation you don’t need to be bringing on a huge income if you don’t owe anybody anything. So we’re simultaneously socking money away in index funds and funneling as much extra cash towards our mortgage that we possibly can.
I think doing all three of these is the way to go.
My wife and I make decent incomes but we work at living as frugally as possible and sticking to a budget. Since we’re more conscious of what we spend our money on we are able to prioritize retirement and funding our child’s 529 Plan. Unlike most people who think budgeting is restricting, I find it liberating. I can buy whatever I want (as long as I stick to the budget). My wife and I make sure we have a little bit of “fun money” in our budget to spend on whatever we want, so we don’t feel so restricted in our spending.
I think it’s all about mindset – if you want to be financially independent, you do whatever it takes to make it happen instead of being a victim and blaming others for your financial situation.
I think the key is the mindset too. If you want it badly enough, you should be able to get there. It’s not out of reach for normal people like you and I.
My girlfriend and I are new to this whole frugal community. We are both young and fresh out of school,so we feel that we can gain financial independence by a decent age. I have been using the first two methods for the past year,and saved a total of $30,000 and that is just my beginning! So,I know with a little hard work and some sacrifice it can be done.
We look forward to see more great posts from you!
It’s great that you are starting early. You’ll get there much faster than people who start later. Good luck!
I’ve been really interested in early FI recently. I think one big obstacle is living in a high cost of living area. If I move out of NYC I could save a lot more…it would also work if I continue working/saving but then move away. Staying here and being FI…I don’t know. I think it would require a large nest egg because the costs, mainly housing are too expensive.
That’s the problem we have too. Portland is getting more and more expensive everyday, but we like it here. It’s a dilemma for sure.
The FI community doesn’t focus enough on the income side. The average person probably has a lot of room to cut on spending, but once you hit a certain level, all you can do is bump the earnings.
I’ve worked hard to get the salary up, keep working on the side hustles, and we have a roommate as well.
When I read Rich Dad Poor Dad, I didn’t initially take action. When I started in 2010, I decided to pay myself first 30%. This was broken down to 2/3 to savings and 1/3 to investing until my savings was up to a large number. Then I went to paying myself 35% and all that money went to investing in REITs and stocks. I recently increased my paying yourself first to be 37%. With money left over at the end of the month, that goes into my investing account, which I did since starting my journey.
I also trade from time to time in my accounts through options or stocks.
I started with #1 being my primary focus and #2 secondary…but alas work has started to get the best of me and #2 and #3 are becoming more important. I completely agree with focusing on your strengths. My husband has built a great artistry business in the last 5 years that will hopefully help us cut W2 income and live off of his creative pursuits and 4% savings. I continue to brainstorm ways to create a life coaching business, we shall see how that goes. Nice to hear everyone’s insight!
That’s a good point. It’s easier to focus on one aspect or another in certain phases of our lives. I was focus on making more money when I was young, but now I’m not stressing out about that anymore.
I am happy to report I’m almost there at 48! The goal is to walk away or at least cut my work to half time at the end of 2017. I’ll be 51 by then.
The question about how much one really needs depends on one’s lifestyle. If one wants to live it up, then one will need a great deal of money. That is a topic I am still struggling with.
As for me, I think I’ll need around 1.5m to feel truly secure. I managed to get to the mythical figure of 1m in early Feb this year because of living frugally, investing regularly like clockwork, ignoring the ups and downs of the market, buying instead of selling when the market is down, and my investment in AAPL.
I’m currently working towards generating enough tax free dividend income in my ROTH to cover living expenses of 25K a year, so I’m going to hang on to work a bit longer so that I can hang on to my work benefits and continue contributing to the ROTH.
Good for you. You’ve done well. You and RB40 both seem to need an extra sense of security though. I see these traits in people who grew up poor and in immigrants. Unless you’re planning to increase your spending, purely from a financial perspective, you don’t need 1.5 million to feel secure.
Josh, it doesn’t hurt to have that little extra just in case, to weather the storms that will come along. Just like what happened over the weekend.
BrEXIT took my portfolio down to .87m. This sort of thing usually worries me because I have to know that I will have more than enough to live reasonably well.
I don’t mean luxuriously, but at least well enough to enjoy a simple vacation outside the country a couple times a year.
I don’t have a high spending goal. Just 36K a year, but my portfolio has to last me at least 45 years, assuming that I live till I am 95. According to a simple calculation that doesn’t take inflation into account, I would need at least 36 X 45 = 1.620m. so 1.5m is already a little on the low side.
Reduce expenses, increase incomes, and invest whatever money we have saved up in stock markets with long term view.
Glad you put increasing income above lowering expenses. Too many in the PF world switch those around. “Spend less than you earn”? Should be “Earn more. Spend less.” Income has unlimited upside. But there is only so many corners one can cut to decrease their cost of living.
I hope everyone reaches financial independence and can actually enjoy their lives afterwards. However, most people are deluding themselves if they believe once you reach an “x” amount, you’ll feel you’ve achieved financial independence and worry less about money. If someone was cheap and had a worrier type of personality to begin with and didn’t change those traits by their late 30s to early 40s, they’ll likely stay that way. Look at the sad stories of people who lived like a pauper all their lives, died with millions, and donated their fortune after they passed. They couldn’t allow themselves to enjoy some of the money nor donate a big chunk to causes they believed in while they were alive most likely due to their own irrational fears of wanting to hoard their cash to feel a sense of security.
Josh, I know many people who have lots of money but live like paupers just like you described. Old habits are hard to change but they seem to enjoy just looking at their bank accounts. I was always worried about money but when I finally learned about the concept of FI my level of anxiety was reduced. I convinced myself that when I achieved FI I would find a career that I really enjoyed (in my case I had to invent one) and that all future fun money would be spent. So now I find myself helping the kids pay down their student loans, take trips etc. but I restrict myself to spending only the fun money.
Life is a lot simpler and a whole bunch more fun now.
I guess you’re right. Your habits are ingrained and it’s difficult to change. Moderation is the key.
We need to ensure that our kids learn about FI and how important it is. Not sure if it is taught in the school system bit it should be. Maybe an encore career in the making?
Hi Joe,
Very nice post and fully agree that FI is not difficult, you just need to take conscious of what really matter in your life. If you want to be alive of credit card, debts because you want the new gadget, new car, new watch, it’s up to you. Happiness in our view is not that.
Cheers,
RA50
You forgot eliminate debt. If you have no debt, all the money you take home is yours. You can do helluva lot more if you aren’t paying someone else every month.
Another great and practical blog article. Approaching 80 years old, I concur with your suggestions. There were several times I easily could have become a multimillionaire as many of my colleagues did. I chose to invest my money in travel … going on for over 40 years. Loving every minute of it.
But…in hindsight, I wish I had invested in dividend paying stocks along the way. So easy, so rewarding. Blogs by you and other real people, as compared to the stuff coming out of the corporate sector (Merrill Lynch, etc), make all of the difference today. It’s great to be able to follow one’s investing practices, see the ups and downs, and then apply to one’s own life and investing style. Thanks Joe for sharing!
Dividend stocks are very rewarding for the long term. Everyone has to find their own path and it sounds like you had a great time. That’s what life is all about, right? Thanks for the compliment.
I think you nailed the three parts of accumulating wealth, Joe, but I am often amazed at how different people view “wealth.” It made good fodder for my personal blog. As far as #3 goes, writing is a good way to go, but don’t expect significant wealth that way. I made less than three figures last year, and I have nine books on Amazon. (Yeah, go ahead and tell me it could be my writing…)
I finally retired at age 57, which seems old compared to you, but it boiled down to how much I really needed. I finally figured it out. Not enough to travel the world, but enough not to travel to the cubicle daily. That works for me.
Thanks for the excellent blog. I follow it regularly and enjoy all your posts!
vince
I think you have to be a good writer and get pretty lucky to generate significant residual income. You also need to learn how to market your product. I think 57 is a great age to retire. You’re still young enough to enjoy life for many years. Thanks for the compliment!
Grow income? Check!
Be frugal? Double check!
Creating something big? Work in progress? Or do 3 kids and a passion for life count? 🙂
I don’t know how you deal with 3 kids. I’m exhausted all the time with just 1. 🙂
Additional degrees mean additional debt. It seems like achievements in the field where you’re seeking employment would be more helpful. Promotions may not be the best way, either, if work consumes more and more of your life.
Robert Kiyosaki (Rich Dad books) makes the excellent point that with taxes arranged the way they are, you do not get rich at work. Instead, you get rich at home, based on what you do with the money you bring home from work. My salary hasn’t budged in 15 years, but we’re on our way to acquiring FI through rental real estate and dividend stocks.
That’s a good point. Active income is taxed heavily as you earn more. You need to invest and get that passive income stream rolling.
When I started my FI journey, it was mainly 1, with a bit of 2. Now, I have added passive income streams to the mix to take out the reliance on 1.
In hindsight, I would have advised my younger self to try a Wealth booster job I.e go for a startup company where, if successful, the fi journey can get a turbo boost. The income base and growth is minimal, but the wealth boost upside is high.
That’s a good point about wealth boost. If the company not successful, you can always find a job at a big company. I think you learn a lot more at small companies too.
I’m totally focused on item 3. After reading Ernie’s book “How to retire, Happy, Wild and Free I found the courage to start writing a book. At completion if it happens I plan on conducting seminars and creating a blog. Additionally I will be working with my wife who is a financial advisor. My mission will be to help people understand exactly what they are saving for in terms of lifestyle etc. I want to help people plan for an encore career and also help people who are suffering from sudden retirement shock.
Target launch date is fall this year.
Good luck! I think it’s amazing what people can achieve if they follow their talent.
For us, we are a combination of #1 and #2. We work hard and earn a decent income but at the same time, we live well within our means. We try to save 40-50% of our income every year and “reward” ourselves with a nice vacation every year. The key for us is the vacation as well as the monthly net worth check ups. These keep us motivated ad pushing through the times when we want to buy a new car or some other expensive item that we really don’t need.
40-50% is awesome. I’m following this article up with an article about how long it takes to reach financial independence. You are doing great at this saving rate. I agree about vacation too. You need some motivation.
To accelerate earlier retirement, there is tremendous leverage in reducing living expenses. At that 4% safe withdrawal rate, trimming your expenses by $1000 means you have to accumulate $25,000 LESS to reach the amount you need to successfully retire.
When I got down to doing it, I found it easier than I would have believed to crank down my living expenses by 42% without giving up much, if anything. My biggest levers were relocation to a more reasonable cost of living area (where I duplicated my previous house at a much lower cost), and an “oldie-goldie” approach to vehicle ownership. But every little “frugality without sacrifice” substitution — changing phone service, finding an alternative to cable TV, etc — added up too.
Being frugal works very well for your situation. I think it’s great that you found your own way to early retirement.
I think the income side of the equation gets overlooked too often. People stress over how to save more, rather than finding ways of diversifying and increasing earning potential. I know that for me personally, no matter how much I saved, my financial stress didn’t start to dissipate until I charged head first at my insufficient income problem. It’s amazing what a difference my earnings boost has made.
It’s just so much easier for the average person to cut back on their expense. Earning more money is a lot more difficult, but it’s worth it if you can do it.
I’m looking to reach FI through paths 1 and 2. Just need the patience and time to travel I guess.
Our tactic for reaching financial independence is a combination of the earn more and save more approaches. We’re definitely trying to optimize both sides of the equation in order to speed up our timeline to the homestead :).
My true passion is for frugality and I love that it has a dual benefit: we both save more and we permanently reduce our cost of living, which means we don’t need as much money in the long run. I also enjoy the simplicity, and reduced stressed, of our frugal lifestyle. It’s a win-win-win for me.
Thank you so much for the mention–I really appreciate that!
I’m looking forward to your homesteading adventure in 2017. 🙂