Saturday, 4 July 2020

10 Levels Of Financial Independence

There are levels to everything. And with financial independence, it is no different. As you reach each level, the concerns will change, the successes will be different and the failures are always looming. Each one comes with a new set of questions, and it will force you, to look at things in a different way than you did not before. Not for any reason other than you have reached a new level, a good comparison would be what we all experience as we get older. When we are five years old, we might cry our eyes out because our ice cream fell off the top of our ice cream cone. But as adults, we just laugh at something like that. 

We are going to cover what the 10 levels of financial independence are, and some of the obstacles that you might face along the way. This is going to be a nice little guide, to get you familiar with what is coming down the pipeline on your fire journey. 

Level 1. Financial Dependency

It is where we are getting by with the help of someone else. For most of us, it's going to be a family member or a friend that's supplementing a portion of our income. That person might not be handing you money, but they might, for example, by letting you stay with them for free or allowing you to borrow their car or give you rides to different places. This is an area that we all start out in when we are young since that's when we're the most vulnerable. I have seen grown adults in this position as they are in the process of paying off debts, for example. Now moving back in with your parents to get your finances in order, is not anything to be ashamed of as long as it is not for an extended period of time. On the other hand, it starts to become problematic as we get older, if we are not careful. It is no fun and can be extremely demoralizing because you start to lose your sense of purpose since you are not able to take care of yourself without help. 

I have seen people get stuck in this position, and become a little too comfortable in it. There's a guy that I know who is in his mid-30s and still lives with his mother. He has never gotten his license before and has no desire to either. By the way, he is a very capable person, but he's just fallen into this slump, and his mom is allowing it to happen. Since this is the bottom though, there's only one way to go, and that's up. If someone is at this level, then it should be a top priority to get out of it as soon as possible, to start building up some confidence. 

Level 2. Break-Even Point

Level two is where you have enough money to cover all of your bills. Think of it as the break-even point. Well, this sounds like it is the ideal situation, it's a little deceiving. Breaking even is good if you are only playing the game to keep your head above water. But it is not if you are trying to become financially independent. It's like playing the same level of a video game over and over and over and over, without progressing through the whole game. On top of this, you can continue to earn more and more money over the years, yet still, continue to break even. This is due to lifestyle inflation. Your income always seems to match your spending, which is why we see people who are rich because of their high income, but not wealthy. There's nothing to show for this success except a bunch of expensive things, that nobody really cares about. Just like my grandpa used to say about these people, they have a big hat, but no cattle.

Level 3. No Consumer Debt

This is where you don't have any consumer or student loan debt. All of the money owed on credit cards, cars, and any kind of debt like that is completely taken care of. If you have a car lease, then I'd even consider that debt as well since you are bound by a contract to pay a certain amount to the dealership. Before I hit this level, I remember thinking to myself that there is no way, I'd ever live without a car payment. People can not buy cars with cash, that's insane. They need to have so much money on hand. Fast forward to today, this level is usually the biggest hurdle for a lot of people. I know it was for me and the $82,000 debts that I had personally racked up. I worked really hard for years, to achieve this one. It takes a ton of focus and effort to get to this level. But once you are there, things start moving in a positive direction. You start to get that small taste of freedom, and it becomes absolutely addictive. You've got to be careful at this stage though, because it can be super easy, to fall back below this level. 

If you have not built those proper habits around to only spending money that you have, then your consumer mindset will start to creep back in. At this stage, your net worth might actually be in the positive. But if you have a mortgage out on a home, or you take one out after this level, then it's back in the red. Now, this is not always a bad thing though. So we will talk about that in just a minute.

Level 4. Personally Insured

The next level of financial independence is where you have enough money set aside, to get laid off from your job, for at least three to six months. Think of this as creating a little personal insurance policy for yourself. If someone having enough money to buy a car with cash, then you can only imagine how impossible I must have thought that it would be, to save up enough money, for three to six months worth of expenses. Sounded like some Voodoo black magic ancient pyramid type. I admit that this is probably going to take a minute to set enough money aside, to cover your normal expenses. But once you get there, you start to get a little taste of what financial freedom really feels like. That freedom you feel from being in a position, to not get super stressed if your income drops for a short period of time, is one that the majority of Americans can not even conceptualize. I should also mention that you have to be careful not to get too cocky at this level because it can get a little risky if you are not careful.  

Since you have this big wad of cash, sitting in a high-interest savings account, it can be easy to dip into those funds and start living a little bit beyond your means. Now is not the time to start making it rain or letting up on the gas. If anything I'd say to start working harder. Celebrate for a minute, then get back after it. 

Level 5. No Mortgage

If you are not already in the positive Net Worth area, then by the time you hit this level, you should be. And that's because your mortgage will be paid off. For most, their biggest debt is their home. and it's what keeps their net worth in the negative for the longest time. Paying off your mortgage early is more of a personal choice than anything. For someone like me, I have zero interest in ever paying off my mortgage early. Now I still have a positive net worth, even while having the mortgage since my assets are worth more than my liabilities. This is all calculated into my financial independence numbers though. I plan on renting this house out that I am in right now, once I move to the next house, that I purchased, that I will live in for a short period of time, before renting that one out and moving on to the next one. But paying off the mortgage on your personal residence, can free up a ton of cash every month, and make you feel a little bit more secure since that's one less payment that you have to worry about. 

There is of course a cost to having a ton of cash equity, tied up in a home. But you can not put a price on the financial security that you get from owning your home outright. 

Level 6. Exponential Growth

The exponential growth stage, and it's one of the more entertaining stages because you start to see your money grow like crazy. Since you've wiped out your consumer debt, built a nice little three to a six-month nest egg, and have no mortgage payment, you are left with a buttload of cash. Because you are pursuing financial independence, you already know that that additional money needs to be deployed into income-producing investments. Those investments could be index funds within the stock market, real estate, businesses, or anything like that. 

Level 7. Mini Retirements Status 

When you are able to take one or multiple mini-retirements, then that's how you know that you've hit the next level of financial independence. You don't have enough money to be able to completely leave work yet, but you've built up enough cushion in your numbers, to be able to leave work for next extended period of time, so that you can test out the life that you want to lead when you eventually leave your job for good. Many people do this so that they can be sure that they are going to enjoy what they plan on doing. Could you imagine working towards ePhI, so that you and your significant other can buy a boat and sail the ocean when you've never actually done it before? That could be a disaster waiting to happen, and a huge letdown, to find out that neither of you can handle being at sea for very long because you're constantly sick.

Level 8. Financial Independence Below Current Living Expenses 
If you have enough money to leave work, with the goal of living on less money than you do now, then that's the next level of financial independence. This could be where your income, for example, is $200,000 per year, but you hit an amount, where you can leave work and live off of $40,000 per year. It's going to take some life adjustments to make it happen since you are used to that high income, but if you were prepared for it, then there is nothing to worry about. Even hitting this level and continuing to work, will basically eliminate all financial stress that you have because if you want to one day, you could just get up and leave from your job. 

Level 9. FI At Current Living Expenses 

Once the numbers match up to where you can leave work, and not change your financial lifestyle, you've reached the next level. It would be like if you are making $90,000 per year, and you also have enough income-producing investments, to cover that same $90,000 per year, that you would earn from your job. This is the ultimate goal for everyone since there's not much adjusting that you have to do at all in terms of how much you are spending. 

Level 10. FI Above Current Living Expenses 

It is when you are able to leave your job and live above your current standard of living. It's the ultimate because not only can you leave your job forever, if you'd like of course, but you can also spend more money when you leave your job. I know it sounds insane, but it's possible. You could technically hack the system with this by moving to a very, very low cost of living country, using the geo arbitrage method. 

Those are the 10 levels of financial independence, I hope you found some value in it

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