7 Levels to Financial Independence
You’ll see how many months it will take to save 10%, 15%, 20%, or 30% of your income to reach each level. Keep in mind that the number of months will remain the same regardless of income. Your saving rate impacts how long it takes you to reach each level in each situation.
Level 1: Expenses saved for one month
Although Level 1 may not appear to be Financial Freedom, it is a vital first step on your quest. It is here that you will no longer be living paycheck to paycheck. Even if you simply have a one-month cushion, that is significant. It gives you breathing room in case the unexpected happens—not if it happens.
According to studies, most people are unable to come up with $400 in an emergency. According to a Federal Reserve research, four out of ten Americans would be unable to meet a $400 emergency with their savings. To put it another way, most Americans do not have Level 1 Financial Freedom.
Level 2: Three Months’ Worth of Savings
At Level 2, we’ve reached what most financial experts consider to be the bare minimum of an emergency fund. You now have enough cash in the bank to cover most unexpected expenses. The money could even help you get by during a temporary work change.
Getting to this stage should be a pleasant experience. If an unforeseen need arises, there is no need to take out a loan to pay for it. This is significant since avoiding high-interest debt is critical to achieving financial independence.
Level 3: Six Months of Expenditure
With 6 months of spending, Level 3 is just the highest limit of an emergency fund. The remaining balance should be sufficient to meet the sad event of all insurance deductibles becoming due at the same time. An extended time of unemployment might likewise be manageable. Compound interest is starting to show up.
Level 4: A Year’s Worth of Expenses
Things start to get interesting on Level 4. There are two things that happen.
First, with a year’s worth of costs saved, you can weather a long period of unemployment. During their lifetime, the average person will change occupations 12 times. While we hope that these adjustments go smoothly, Level 4 Financial Freedom will assist you in navigating any potential stumbling blocks.
Second, we begin to realise the benefits of compounding, which I refer to in my book as the Money Multiplier. As we now know, the majority of our Freedom Fund does not come from monthly savings. That is, of course, how it begins when we are attempting to reach Level 1, 2, or even 3.
However, the money we save will eventually be spent.
Level 5: Expenses during the previous five years
At Level 5, you’ve already saved more than most people will in a lifetime. For example, assuming $50,000 in annual costs (the round number makes the math easier), you’ve saved and invested $250,000. Your Freedom Fund will create about $25,000 in returns over the next 12 months at a 9.3% return (the average return of an 80/20 portfolio over the last 90 years). To put it another way, your investments are providing income that is close to 50% of your annual spending.
Level 5 is also a dangerous level. Some people may feel complacent in this situation. It’s easy to go back into old habits or lose concentration when you’ve saved so much money. Knowing this now will assist you in avoiding harm.
Level 6: Expenses Over a Ten-Year Period
Level 6 is a significant achievement. Your investment income will begin to match, then exceed, how much you spend each year at this point.
Assume you spend $50,000 per year again. At Level 6, you’ll have a $500,000.00 Freedom Fund. Over the next 12 months, a 9.3% return will generate $46,500 in returns, bringing your Freedom Fund to $546,500. With a Freedom Fund of about $550,000, you’ll generate slightly over $50,000 every year on average the next year.
What a wonderful sensation! You work hard, make a decent living, and spend $50,000 per year. At the same time, your Freedom Fund is earning the same amount of money. Your wealth is expanding before your eyes like a snowball falling downhill.
Level 7: Expenses over the Past Twenty-Five Years
Level 7 is the pinnacle of financial independence. You can entirely retire from employment here if you so desire. Alternatively, if you’re like me, you may work on projects you enjoy while also making money. It’s entirely up to you.
At the age of 49, I was able to retire from the practise of law because to Level 7. I continued to manage my personal finance blog, email, and podcast after I retired. I sold my blog two years later, but I continue to produce a monthly podcast and worked as a Deputy Editor at Forbes for a few years. These efforts brought in money. However, I completed them since I am enthusiastic about personal finance and investing.
You can pursue your passions once you reach Level 7. It’s possible that you’ll be able to keep your employment. If that’s what you want to do, there’s nothing wrong with it. It could imply launching a company. The premise is that you get to choose what you’ll do when you reach Level 7. It’s a lovely sensation.
