What is Financial Independence and how to achieve it

What is Financial Independence?

Financial Independence is the status of having enough income to pay one's living expenses for the rest of one's life without having to be employed or dependent on others. Income earned without having to work a job is commonly referred to as passive income.

If a person can generate enough passive income to meet their needs from sources other than their primary occupation, they have achieved financial independence, regardless of age, existing wealth, or current salary.

For example, Ram a 25-year-old man has ₹10,000 expenses per month, and have assets that generate ₹10,000 or more per month, then he achieved financial independence and he is not required to work a regular job to pay his bills. On the other hand, Ramesh a 50-year-old earns ₹1,00,000 a month but has expenses that equals more than that per month, then he is financially not independent, as he still need to earn the difference each month to make all his payments.

However, the effects of inflation must be considered. If a person needs ₹1000/month for living expenses today, he will need ₹1050/month next year and ₹1102.50/month the following year to support the same lifestyle, assuming a 5% annual inflation rate. Therefore, if the person in the above example obtains only the same passive income from a perpetuity, then in future he will lose his financial independence because of inflation.

How to achieve Financial Independence

As mentioned above there are two sides for achieving financial independence, one is assets and other is expenses, hence we need to focus our energy in: accumulating assets or reducing their expenses.

Actions on the Asset Side:

1. Automate your Savings: Invest your money by auto debit facilities through options like SIP/RD the same day you receive your pay check, so it never even touches your hands, avoiding temptation of spending it entirely.

2. Invest in assets which can beat inflation: FDs gives fix returns but mostly below the inflation rates, so to create a corpus which can beat inflation we need to invest in those assets which can generate higher returns than inflation like equity stocks.

3. Continuous Education to Update & Upgrade: The biggest asset for you is yourself so we need to update our skill to match with current scenario which will help in our income growth and future prospects. We should also update about current tax laws and investment related information so as to get the best out of it.

4. Maintain Your Assets: We need to take good care of our assets like home, car, electronic gadgets even the shoes and clothes so that they last longer. As the cost of maintenance is a fraction of the cost of replacement, it’s an investment not to be missed.

5. Take Care of your Health: There is saying that Health is Wealth. The principle of asset maintenance also applies to the body. Invest in good health with regular visits to doctors and dentists, and follow health advice about any problems you encounter. Many problems can be prevented—with lifestyle changes such as more exercise and a healthier diet. Obesity and ailments make insurance premiums skyrocket, and poor health may force earlier retirement with lower monthly income. Taking a proper health Insurance cover to manage hospital bills is very important.

6. Take an Expert’s Help: An expert can guide you about your needs, plan out your financial goals, corpus required, and how to reach those goals by proper selection of assets. Taking an experts assistance ensures that your are moving in right direction.

Action on Liability Side:

1. Set Life Goals: To achieve the financial independence first we should know what exactly we need to achieve it. So we should first write down how much we have as of now, what the lifestyle entails, and at what age this should be achieved. The more specific our goals, the higher the likelihood of achieving them. Next, count backward to the current age and establish financial mileposts at regular intervals. Write it all down neatly and put the goal sheet at the very beginning of the financial binder.

2. Make a budget: The best way to guarantee that all expenses are paid and savings are on track is making a budget and sticking to it. This regular exercise also reinforces our goals and bolsters resolve against the temptation to splurge.

3. Pay of Credit Card bills in full: Credit cards and similar high-interest consumer loans are toxic to wealth-building. We need to pay off the total dues each month. Home Loans, Education loans, mortgages, and similar loans typically have much lower interest rates; paying them off is not an emergency. However we should be paying all EMIs on time as it will build a good credit rating.

4. Watch your Credit Score: The credit score determines what interest rate we will be offered when buying a new car or taking a home loan. It may also impacts seemingly unrelated things. It is important to check credit report at regular intervals (now it’s free to get one credit report every year) to ensure that there are no erroneous black marks ruining your good name.

5. Negotiate: Most of us are hesitant to negotiate for goods and services, worrying that it makes them seem cheap. Overcome this cultural handicap and we can save thousands each year.

6. Live below your means: Living below your means that we are saving something for the future by not spending everything today. Mastering a frugal lifestyle by having a mind-set of living life to the fullest with less is not so difficult. Indeed, many wealthy individuals developed a habit of living below their means before rising to affluence.

If we adopt these basic principles we can be financially independent much before we actually be unable to work.