Editor’s note: The following post is offered for information purposes, only. It is not intended to be financial or legal advice.
Even if you’re not familiar with the concept, you probably intuitively understand that “financial independence” is a good thing. However, there are many misconceptions and misunderstandings about what it means to be financially independent, and how to get there. In this guide, we’ll discuss the importance of financial independence, and the strategies you can use to get there.
Defining Financial Independence
The strict definition of financial independence is having enough assets and/or income to cover all your living expenses, without having to be employed and without being dependent on others. In most cases, this means having investments or passive income sources in sufficient quantities to support your lifestyle.
This is a dream for millions of people since it means you can live your life in a truly free way. You won’t have to work (unless you want to), and you can rest assured that you’ll never run out of money. It sounds like a fantasy, but it’s something that’s achievable for most people, assuming you start early enough and follow the right strategies.
Potential Sources of Income
To cover your living expenses, you’ll need some way to generate income, or gain access to the money necessary to pay your bills.
There are many viable options to use here, including:
For starters, you could collect revenue from a series of rental properties. With rental properties, you’ll collect income in the form of rent from occupying tenants; with the right property, this income should exceed your monthly expenses. Each unit in your rental property portfolio can generate a few hundred to a few thousand dollars per month, so with enough units, you can reliably meet your needs. Of course, the downside is that rental properties require ongoing attention, but you can make your investment truly passive by working with a property management firm.
Stocks allow you to invest directly in publicly traded companies, granting you shares of ownership in those institutions. Some stocks pay out regular dividends as a form of profit-sharing, in many cases ranging from 2 to 4 percent of the stock’s value. For every $100 of stock you own, you can count on $2 to $4 of annual income, which isn’t much, but it can add up fast.
You can also make money from capital gains; your portfolio of stocks, bonds, and other investment assets will grow in value over time. Assuming you’re properly diversified and achieving a decent growth rate, you should be able to withdraw 4 percent of your principal per year comfortably.
Annuities are a type of financial product meant to secure reliable revenue for individuals, often retirees. You’ll pay a substantial amount of money upfront, and in return, you’ll get a fixed amount of money each month—oftentimes, for the rest of your life.
Other passive income sources
You can also generate income from a diversity of other passive income sources. For example, if you run a blog that generates significant traffic, you can capitalize on revenue from ads or affiliate links.
The best strategies are diversified. In other words, they contain many different assets and sources of income. This way, no single source of loss or single type of risk can disrupt or compromise your earnings.
As you’ve seen, many of the assets and investments that provide a significant return require you to have significant wealth upfront. You’ll have to earn this wealth if you want to utilize it for your financial independence later in life. You can do that by following these important principles:
Compound interest allows you to generate interest on the interest you’re earning, resulting in exponential growth. Given enough time, even a modest investment can become substantial. In other words, if you start early enough (ideally in your 20s), you’ll have a much greater chance of accumulating the capital you need to become financially independent later in life.
Minimize your expenses.
Try to generate extra money to invest each month. One easy way to do this is to cut your expenses; reduce your subscriptions and entertainment expenses to the minimum, and find ways to cut core costs like housing and transportation. For example, you could move to a cheaper area or start taking public transportation.
Increase your income.
Over time, you’ll also want a plan to increase your income. This could come via career advancement, side gigs, or even your investments directly.
Shift your risk balance over time.
When you’re young, your investment portfolio should lean toward being high-risk, high-reward. Over time, you can gradually shift your wealth to safer, more stable assets.
If you’re just starting to address your personal financial situation, becoming financially independent may seem like a distant dream. However, with the right plan, and consistent execution, almost anyone can eventually achieve this.
This content is sponsored by Larry Alton.
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