Independence Day (U.S.) is my favorite holiday of the year. It is even better than Christmas for me. This year, the weather was perfect and we stayed in town to BBQ, relax, and enjoy the fireworks. I guess I just don’t have the same attachment to Christmas like most people. Christmas feels so commercialized to me now. It’s all about spending money and it’s always cold and wet. I can’t BBQ in that kind of weather! Anyway, we had a great Independence Day like usual. I love it. Life is good and it’s easy to take freedom for granted sometimes. I am very grateful that we live in a country where we’re free to do almost anything we want (within reason). The US has its share of problems, but they are relatively minor compared to many places in the world. Most of us have the opportunity to build a very comfortable life here.
What is Financial Independence?
To me, financial independence means having enough passive income to support your lifestyle. Passive income can be from dividends, rental properties, interest income, or a combination of these. Passive income means you’re not actively working to produce that income. Your investment will keep making money even when you’re on a vacation. That’s much better than trading your time for money, right? However, it’s not easy to build up passive income to that degree.
In 2017, our passive income exceeded our annual spending for the first time. It felt great, but it doesn’t look good this year. Our expense is higher than usual in 2018 due to expensive home maintenance and vacation. Luckily, I have my semi-passive income to fall back on. Blogging is generating good income this year and it keeps us in the green every month. See, it’s not easy. We’ve been investing for 22 years and we’re getting very close, but we’re not quite there yet.
Declare your Financial Independence Day
What does it mean to declare your Financial Independence day? It means you commit to strive for financial independence.
Financial independence (FI) is a concept many aspire to, but only a few achieve. FI is difficult because it can only be achieved with deliberation and perseverance. It is a simple idea, but the execution can take years. Here are the 3 essential steps to financial independence (more in-depth article through this link).
- Track your finance– Most people have no idea what they spend their paychecks on. Money flows through their hands like water. The first step toward financial independence is to figure out how to cut back on unnecessary expenses. This can be done by tracking your spending carefully and getting rid of the expense that don’t add happiness to your life. The goal is to spend less than you make. As long as you can achieve this consistently, your finances will keep improving.
- Save and invest as much as you can– The next step is to save and invest as much as you can. This will determine how fast you can reach FI. If you save 10% of your income, it will take 50 years to achieve FI, i.e., a lifetime. However, if you can save 70% of your income, you can reach FI in less than 10 years.
- Passive income exceeds expenses– It is simple, once your passive income exceeds your expenses consistently, you will be financially independent. There are other ways to define financial independence, but this is the safest. You will never run out of money if your passive income covers your cost of living. It’s best to build in a little margin, of course. Your expenses will inevitably increase over time.
Our Financial Independence Journey
Now, I want to share where we are on our FI journey. Our main goal is to generate enough passive income to exceed our expenses by 2020. Mrs. RB40 plans to retire by then and it would be ideal if our passive income can cover our expenses. Today, we could support our lifestyle with the combination of passive income and my online income. However, the online income is volatile and you never know how long it will last. It is safer to rely on passive income.
Coincidentally, July 4th is the half way mark of the calendar year. It’s a great time to take stock and see if we’re on track. I do this by checking our FI ratio. In previous years, I only checked it twice per year. Now I do it every month in our monthly passive income report.
FI ratio = passive income / expense
Once our FI ratio consistently tops 100%, we’d be set financially for the rest of our lives. Here is how we generate our passive income. I update our passive income page every month now so it is easier to check our progress.
Passive Income Report
For this post, I’ll only look at passive income and ignore gains and losses.
2017 was a banner year for us. Our passive income was great and our annual expense was low. We finally achieved financial independence for the first time! However, 2018 doesn’t look good. Our expense is higher this year and I doubt our FI ratio will reach 100%. The 2nd half of 2018 will be better, but it won’t be able to overcome the high expense we had in the first half. That’s okay, though. We’ll keep working on it. Let’s go through each line item in detail.
- Real Estate Crowdfunding – Our passive income is ramping up in this category. We already exceeded what we made in 2017 in just 6 months. RE crowdfunding income should keep increasing as we invest more here. You can read more detail at my real estate crowdfunding page.
- Rentals – Being a landlord is a proven way to build wealth, but it can be stressful sometimes. One of our rental units was vacant for 5 months and it impacted our rental income. It’s rented now so the rental income should be good for the rest of 2018.
- Dividend Income – Our dividend income target is $12,000/year. We’re on track there. I’m not reinvesting this year because I think the stock market valuation is too high. I’ll invest more when the price is better.
- P2P Lending– I’m slowly pulling money out of P2P lending and investing in real estate crowdfunding instead. The return is better and real estate is much more tangible than unsecured lending. Unsecured loans will be the first thing borrowers default on when the economy turns south.
- Interest–This is the interest from our banking accounts.
- Retirement Accounts– Our retirement accounts are all invested in low cost Vanguard index funds. We are a bit behind here because most of the dividend will be paid out in Q4.
You can sign up with RealtyShares through this link if you’re interested in real estate crowdfunding. My experience with RealtyShares has been really good so far, but your mileage may vary. You can browse their projects and see if real estate crowdfunding is something you’d like to try.
What about the FI ratio? How are we doing so far?
FI ratio = passive income / expense
Our FI ratio = $23,772 / $37,092 = 64%
As expected, we’re not doing very well this year. That’s disappointing because 2017 was such a great year. This is a good lesson, though. Some years will be more expensive than others. We just need to have a nice cash cushion to cover those unexpected expenses. Here are some of the things that caused our total expense to balloon in 2018.
- $6,500 for a new HVAC system.
- $7,000 for our Iceland vacation. Iceland is beautiful, but also incredibly expensive.
- $1,000 for a new mattress.
I’m pretty sure the rest of 2018 will be better. There shouldn’t be any more big expenses this year.
Fortunately, my online income is great this year. My business generated $37,285 in the first 6 months of 2018. This is enough to cover the shortfall. I feel fine with this because online income is a big part of my early retirement strategy. The plan is to work part time until our passive income grows enough to cover our entire expense. This way we could put off withdrawal from our retirement accounts until we’re about 55. A little active income goes a long way in retirement. Also, working a little bit gives you purpose. It’s not good to have nothing to do.
Let’s look at the history of our FI ratio quickly.
- 2015:54% ($28,415/$53,037)
- 2016:71% ($38,222/$54,000)
- 2017:109% ($53,664/$49,131)
- YTD 2018:64% ($23772/$37,092)
Here are our targets for future years.
- 2018: target 85%
- 2019:target 92%
- 2020:target 100%
It looks like we took a big step backward in 2018. However, the year is not over yet. If we can control our expense, we can still get our FI ratio up to around 85%. That’s our original target. Let’s get this done and then start over in 2019.
Okay, what are you waiting for? Declare your Financial Independence day and get working on it. Financial independence will take a long time so the earlier you start the earlier you’ll get there. Don’t wait too long!
Do you keep track of your passive income vs expense? The ratio should improve every year if you hope to reach Financial Independence.
If you plan to track your passive income, consider signing up for Personal Capital to help manage your investment accounts. They are very useful and I can get all my passive income data from one site. That’s much easier than logging into every brokerage, banks, and retirement account separately.
For 2018, Joe plans to diversify his passive income by investing in US heartland real estate through RealtyShares. He has 3 rental units in Portland and he believes the local market is getting overpriced.
Joe highly recommends Personal Capital for DIY investors. He logs on to Personal Capital almost daily to check his cash flow and net worth. They have many useful tools that will help every investor analyze their portfolio and plan for retirement.