The Stages of Financial Independence
But you can work your way through a path that leads to financial independence and complete abundance. That path has stages and you should celebrate your progress at every stage!
Stage 0: Financial Dependence
We all begin from a place of dependence on others. You may be a young adult transitioning from under your parents’ care to being self-supporting. Or you may have hit a rough patch in life as an adult and needed the help and aid of others.
Regardless where you’re starting from, the first step is to transition from being dependent on others to being self-supporting and financially solvent.
Stage 1: Financial Solvency
The first stage of financial independence is to become financially solvent. This means that you are able to support yourself on your own income without the aid of others and that you are current on all of your bills.
There are many strategies that you can employ depending on your starting point. You may need to create an income for the very first time in your life. You may need to transition from an unreliable or low income to a bigger and better income. Or you may need some ideas to renegotiate your debts with your creditors.
It doesn’t matter why you’re behind. It only matters that you get your income to a point where it’s equal to or greater than your expenses.
Stage 2: Financial Stability
Once you’re current on your bills, you need to build a buffer account. Call it what you will–emergency fund, rainy day fund, cash reserves, buffer account–the purpose is the same.
Unexpected problems happen. Unexpected opportunities present themselves. You’ll need money. If you don’t have any money saved, you’ll fall behind on your bills and wind up in debt. Or you won’t be able to take advantage of a perfect opportunity because you didn’t have the cash.
First you figure out how much you need in the buffer account. Then you save it. Then you declare yourself financially stable.
Stage 3: Debt Freedom
If you have debt, you’ll probably want to get rid of it. Not all debt is created equal. But you’ll need to sit down and look at your debts and make a plan to dump the debt that’s not getting you closer to financial independence.
That definitely means getting rid of any high-interest rate debt. It certainly means clearing your name from any old, unpaid debts. It probably means dumping any consumer debt tied to depreciating assets. And it likely means having a plan to clear the debt on any productive business or investment assets.
Being debt free means you can enjoy greater freedom and independence in your life. And that’s the whole point, isn’t it?
Stage 4: Financial Security
Your long-term goal is to de-couple the expenses associated with your lifestyle from your need to work to pay for them. That happens when the income from your investments is sufficient to pay for them.
This happens in stages–small at first and larger later. The first stage is to have your basic living expenses covered by your investment income.
That means your housing expenses, utilities, food, transportation, and insurance. When these basic needs of life are covered by your investment income you’ve attained a high degree of financial security.
Stage 5: Financial Independence
When your current lifestyle expenses can be met with your investment income, you’ve reached the point of financial independence! Congratulations!
You can choose to disconnect yourself from work if you want to. But of course you might choose not to.
The key at this stage is simply to know that it’s up to you!
Stage 6: Financial Freedom
It’s possible that you have some lifestyle goals which are beyond the lifestyle you’re currently living.
This might be things you desire to buy, experiences you desire to have, or philanthropic goals you wish to meet.
If so, the important thing is to clarify these goals and fund them with your investment income. At that point in time, you’re truly financially free in every sense of the word.
Stage 7: Financial Abundance
When you reach this stage of your financial journey, you’ve reached the most challenging stage of all. But it can be a very enjoyable challenge!
You’ve accumulated wealth beyond the amount needed to fund your own lifestyle expenses with a comfortable margin of safety.
Now you have to decide how to responsibly manage the surplus. How will you allocate it productively while you control it? And who will control it when you’re done with it? How will you assure that the money is used for good and not for evil?
It’s a real challenge, but it’s one faced by all those who have faithfully and steadily built wealth throughout their lifetimes. It’s the most important stage of all.
You need to transition from depending on the support of others to providing your own support with the work of your hands.
You need sufficient income from your own efforts to pay all of your living expenses and you need to be current on all of your bills.
You need to save and accumulate a buffer account so that unexpected expenses and opportunities don’t cause you to fall behind or miss out.
You need to make a plan to become debt free and follow through until it’s accomplished. Think and plan carefully for each debt.
You want to have your basic living expenses covered by your investment income alone without the need for you to work.
Your current lifestyle expenses can be paid from your investment income without your needing to work to earn money.
You’ve built your investment income to a point where it funds your current lifestyle expenses and any desired lifestyle goals as well.
You’ve accumulated enough money to fund all of your desired lifestyle expenses with room to spare. Now, how do you responsibly allocate the surplus?