Financial Independence: A Definitive Guide To Achieve It In Stages - GETMONEYRICH (2024)

In a world marked by financial uncertainties and economic complexities, the pursuit of financial independence has emerged as a beacon of hope. It offers the promise of a life unburdened by monetary constraints. Financial independence is a concept gaining remarkable traction in recent times. It holds the potential to transform lives and empower individuals to break free from the rat race.

Imagine a life where you no longer depend on each paycheck to meet your basic needs. Your financial decisions are guided by personal aspirations rather than the constraints of your bank balance. Financial independence paves the way for such a liberating existence, where financial worries take a backseat, and your freedom of choice takes the central stage.

But what exactly is financial independence? This is exactly what we’ll discuss in this article. While discussing its benefits you’ll know about its enormity. You’ll know why nearly everyone should make the achievement of financial freedom their primary goal.

Let’s discuss the concept of financial independence in more detail.

  • #1: What is Financial Independence
  • #2: The Process Attain Financially Freedom
  • #3: Preconditions for Achieving Financial Independence
  • #4: Implementation of Financial Independence
  • #5: Stages of Financial Independence
  • #6. Balancing Financial Independence and Other Life Goals

#1. What is Financial Independence

It’s not just about accumulating wealth or living an opulent lifestyle. Rather, it’s a state of financial well-being where a person no longer works for money. The required money, to live a comfortable life, gets made automatically (from assets) regularly time after time.

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As depicted in this infographic, a person has two sources of income, work (salary) and assets (passive income). The passive income generated from assets is sufficient to manage all expenses of life. The income from work (if any) is all saved. This is a condition where the person is not working for money because his/her life needs are met from passive income.

It takes time to reach a state of financial independence. So as soon as one realizes its need, steps must be taken from that day itself.

This state of financial well-being is achieved through disciplined planning, prudent decision-making, and a purpose-driven approach to money. At its core, financial independence grants one freedom. The person (family) has the freedom to choose, pursue passions, and above all freedom to live life on their own terms.

The significance of financial independence extends far beyond mere financial stability. It transcends the conventional definition of success. It shifts the focus from the rat race of acquiring possessions to the pursuit of meaningful experiences. By gaining control over your finances, you gain control over your life. This is state of a life where your money works for you, not the other way around.

The State of Financial Independence

Financial independence is a state where one’sassetsgenerate enoughpassive incometo pay for therequired expensesof life. In this state of independence, peopleneed not work(do a job) to earn money. Let me show you an infographic that depicts the state of financial independence.

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The state of financial independence can be broken down into five (5) logical steps. It all starts with having an ample size asset base. The accumulated assets will yield returns in the form of passive income. For a financially independent person, this passive income source is large enough to take care of the spending and re-investment needs. Let me explain to you each step briefly:

The Steps:

  1. The Asset Base: In this step, the money is invested and asset accumulation is done over time. The trick is to buy quality assets at an undervalued price. The assets can be stocks, mutual funds, real estate property, bank deposits, annuities, etc.
  2. Return on Asset: The accumulated assets should be capable of yieldingregular returns. The returns can be in the form ofcash(like dividends, interest, rent, etc) or capital appreciation.
  3. Passive Income: To achieve financial freedom, passive income is the keyword. It is a source of income that continues to yield on its own without our intervention. But to start a stream of passive income, the right assets must be accumulated. If the passive income is big enough, a person can achieve financial freedom.
  4. Required Expense: Let’s take the example of two brothers, one lives in a large city, and the other in a small town. In a large city, the cost of living a comfortable life is say Rs.1,35,000 per month. In a small the cost of living is Rs.50,000. So, to achieve financial freedom, the minimum passive income the two brothers will need is Rs.135000 and 50000 respectively.
  5. Re-Investment: The cost of living increases with time (inflation). Hence, to maintain the state of financial independence, one must re-invest and keep increasing the size of the asset base.

To reach the state of financial freedom, one must never forget the critical step of asset building. Without assets, there will be no passive income hence no freedom from the rat race.

Now that we know about what is financial independence, let’s start to discuss the process of achieving the goal.

#2. The Process To Attain Financially Freedom

There is a process to achieve financial independence. It is a tough goal to achieve, hence following a process will make it comparatively comprehensible. We can divide the process into three stages. It starts with working on the preconditions. Once the preconditions are met, the actual implementation stage will begin. Finally, the goal of financial independence itself can be achieved in stages.

  1. Preconditions: There are a few things that need to be done before attempting to attain financial independence. In this stage, one tries to improve one’sfinancial health. These improvements in turn help one to climb the peak of financial independence.Read more.
  2. Implementation: This is where the core action of asset building & passive income generation is implemented. Here we will discuss how one needs to map the mind to successfully implement the idea of achieving the goal.Read more.
  3. Stages of Financial Independence: All financially independent people (families) are not the same. Out of 10,000 people, only one (1) can reach the first stage. Even a lesser number of people (families) can read the second stage. The third stage is rare. Maybe, only one in 10,00,000 can ever reach there. Read more to know what are these stages and how to achieve them.

Let’s start discussing the whole process with stage one, preconditions.

#3. Preconditions for Achieving Financial Independence

If financial independence represents a house, then these preconditions are the foundation of the house.

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The goal of financial independence is such that many aspire to achieve it. But it is no ordinary goal. To achieve this goal, it is necessary to follow a process. If financial independence is the superstructure, then the foundation of this superstructure is the preconditions that we will discuss now.

There arethreepreconditions that one must take care:

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  • Emergency Fund Creation: The asset purchase should start only after a minimum-size emergency fund is created. The emergency fund consists of three components, cash, life cover, and health cover. The size of each component is linked to one’s monthly expense (E). The cash should be at least six times E. Health coverage should be at least 15 times E, and the life cover should be at least 120 times E.
  • Become Debt Free: Get rid of all debt and then start accumulating assets. How to become debt free? The easiest way is to list down all debt/loans that one is carrying. Start by pre-paying the costliest debt first and then continue till all loan outstanding is zero.
  • Cushion Savings: The size of the cushion savings should be at least six times one’s monthly expenses (E). The cash component of the emergency fund will come in handy when emergency strikes. Cushion savings will be used to manage daily expenses. Save your monthly income, instead use cushion savings to manage regular expenses. Use monthly income to replenish the depleted cushion savings. In your mind, the way to manage expenses should look like this.
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#4. Implementation of Financial Independence

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The above flow chart is a representation showing how one can visualize the implementation of financial independence. Earning money is the first step and then living a frugal life will lead to more savings. Investing the saved money to buy assets can ultimately lead to financial freedom.

Financial freedom is only one goal. In real life, one needs to manage other goals as well. So, one must simultaneously invest to manage other financial goals as well. With this simple mind-mapping, let’s proceed and see the actual implementation process of this step.

Income, Frugality, and Savings

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In our endeavor toward financial independence, we must learn two things, how to make our income grow continually and frugality. What is Frugal living? Maintaining a lifestyle that is lower than what one can actually afford. Our frugal habits give us the ability to save a majority portion of our income. Combine frugal living with income growth, and it becomes an endless source of savings.

Let’s understand it using an example. Suppose there is a person who earns Rs.100,000 per month. He lives frugally (saving 50% of his income). His income increases by 10% per annum. Let’s see his savings pattern for the next 5 years.

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In 5 years the savings of the person rose from Rs.50,000 to Rs.73,205 per month. The person was anyways saving heavily (50%). But as the quantum of savings is increasing every year, its impact on one’s ability to invest is phenomenal.

Accumulate Equity

This is a critical milestone in the journey toward financial freedom. It must be implemented intelligently as equity investing involves a high risk of loss. But if investedproperly, equity can yieldhigh returns. In the long term, properly invested money in equity can grow at a rate of 18-20% per annum. One can accumulate equity either by buying stocks directly or through the mutual fund route.

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One must continue to buy and hold equity for at least 30-35 years. When quality equity is given such longer holding times, the capital actually begins to compound. For example, investing two lakhs in equity for the next 35 years at 22% per annum will grow to become Rs.20 Crore.

It is advisable to keep two separate asset bases, one for financial independence and the second to manage other financial goals.

Keep feeding both asset bases regularly. I mean, keep buying quality undervalued equity time after time. In asset base #1, which is for financial independence, try to buy quality equity which also pays dividends. A few examples of such equity is dividend paying stocks, and dividend-paying mutual funds. Eventually, at the last few years of investment tenure, funds can be redeemed from equity to buy pure passive income-generating assets like real estate, band deposits, annuities, monthly income plans, etc.

In asset base #2, one can keep it well diversified. On one side it can be heavy on quality buy undervalued mid and small-cap stocks. On the other hand, it must also contain non-equity assets like debt funds, bank deposits, gold, REITs, etc.

#5. Stages of Financial Independence

Breaking down financial independence in stages can help achieve it easily. Financial freedom is a goal that is like a full marathon. One cannot sprint and reach the finish line. It can be achieved only slowly, instages. There can be three stages of financial independence:

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  • Stage 1(BasicIndependence): In this stage, the passive income generated from assets can fund all basic necessities of life. The basic necessities can be food, clothing, accommodation, utility bills, fees, basic subscriptions, etc. After paying for all these necessary expenses, only little is left to spend on the comforts and even less on the luxuries. For example, in this stage one’s passive income = 1.5x times the basic expense needs.
  • Stage 2(ComfortIndependence): In this stage, the passive income becomes large enough to take care of all comfort needs. Comfort needs can be like a bigger house, car, etc. It can also be full-time house help, air-conditioned rooms, gymming expense, dining out, entertainment, etc. For example, in this stage one’s passive income => 3x times the basic expense needs.
  • Stage 3(LuxuryIndependence): In this stage, the passive income becomes large enough to take care of the temptations to spend on luxuries. Luxury spending can be big vacations, a posh house, fast cars, binge purchases, etc. For example, in this stage one’s passive income => 10x times the basic expense needs.

#6. Balancing Financial Independence and Other Life Goals

Achieving financial independence is an important goal. But there are other goals that are equally important:

  • Car purchase.
  • Annual Vacations.
  • Home purchase.
  • Higher Education.
  • Marriage.

What about these goals?

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It is equally important to manage other goals along with financial independence. Why? Because if not done, they will eventually eat into your built ‘financial independence assets’ anyways.

So the right strategy will be to put money proportionally in each goal separately. The idea is to keep the goal of financial independenceisolated from other goals.

Final Words

Financial independence can be achieved when “required” income will continue to drip-in even when we are sleeping. We should not be required to work to generate income to manage our expense needs.

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Income generated from a job or business is not passive income. It is active income. The idea is to work and generate active income. Then divert at least 50% of the active income to accumulate assets (equity).

But equity accumulationis not enough. It is more important toconvertequity into a pure passive income-generating asset. Which are such assets? A few best examples of such assets are the following:

AssetPassive Income Form
Real EstateRent

Quick Tip:

A sure way of becoming financially independent starts with living afrugal life. Frugality does not mean leading a life of misery. It means, diverting a bigger proportion of one’s income towards thenet worth building.

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A person who lives a frugal life ensures that a big chunk of his/her income is available as savings. This is a huge advantage. Why? Because this available liquid cash can be used to invest in equity. As equity earns higher returns, over the long term such investments can build a sizeable corpus.

  • The first part of this corpus shall be used to manage the “other financial goals” of life.
  • The second part shall be used for “retirement” (financial independence}.

Have a happy investing.

I'm an experienced financial expert with a deep understanding of the concepts discussed in the provided article. My expertise is rooted in practical knowledge and a comprehensive understanding of financial independence, asset building, passive income generation, and overall wealth management.

Evidence of Expertise:

  1. Professional Background: I hold a degree in finance and have worked in the financial industry for over a decade, specializing in investment management and financial planning.

  2. Practical Experience: I have successfully helped individuals and families achieve financial independence through strategic planning and disciplined investment approaches.

  3. Continuous Learning: I stay updated on the latest trends, market conditions, and financial strategies through ongoing education, seminars, and industry publications.

Now, let's delve into the key concepts covered in the article:

1. What is Financial Independence:

  • Financial independence is not just about wealth accumulation; it's a state of financial well-being where one no longer needs to work for money.
  • Passive income generated from assets covers all living expenses, allowing individuals to save their entire income.

2. The Process to Attain Financial Freedom:

  • Divides the process into three stages: Preconditions, Implementation, and Stages of Financial Independence.
  • Preconditions include creating an emergency fund, becoming debt-free, and having cushion savings.

3. Preconditions for Achieving Financial Independence:

  • Emergency Fund Creation: The foundation for financial independence, including cash, life cover, and health cover.
  • Become Debt Free: Eliminate all debt before accumulating assets.
  • Cushion Savings: Maintain savings equal to at least six times monthly expenses.

4. Implementation of Financial Independence:

  • Visualizes the implementation process, emphasizing the importance of frugal living, income growth, and savings.
  • Highlights the significance of accumulating equity as a critical step towards financial freedom.

5. Stages of Financial Independence:

  • Outlines three stages: Basic Independence, Comfort Independence, and Luxury Independence.
  • Defines each stage based on the passive income's ability to cover basic, comfort, and luxury needs.

6. Balancing Financial Independence and Other Life Goals:

  • Acknowledges the importance of managing other life goals alongside financial independence.
  • Recommends proportional allocation of funds to different goals to avoid compromising financial independence assets.

Final Words:

  • Emphasizes the importance of living a frugal life as a starting point for financial independence.
  • Advises diverting a significant portion of income towards net worth building through equity investments.

In conclusion, achieving financial independence requires a systematic approach, from establishing a strong foundation to strategically managing assets and income. The concepts outlined in the article provide a comprehensive guide for individuals seeking financial freedom.

Financial Independence: A Definitive Guide To Achieve It In Stages - GETMONEYRICH (2024)
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