If you don’t think you’ll be able to retire early, then YOU are your own biggest problem. The fact that millions of Americans out there are only saving 2% of their income and holding 401k balances less than $100,000 is not an average retirement savings target that you should strive for. That’s just a financial epidemic that you won’t want to have anything to do with. You can do better! In this post we’re going to walk through a step-by-step plan for how to become financially independent with the honest hopes that you will be able to copy of my method and decide for yourself what parts of it will work for you.
It’s All About How You Will Get There:
You might feel like there’s some special secret to early retirement planning. But the truth is that it is not really as difficult as you may think it is. Just Google “early retirement” and you’ll find all kinds of success stories from regular people like you and I who have pulled it off.
For example, MSN Money ran an article not too long ago about the different ways that people figured out to retire in their 50’s, 40’s, and even 30’s. One of them was about a woman named Syd who was able to achieve financial independence at the incredibly young age 44!
You want to know how she did it? By building a nest egg that was 33 times her anticipated annual expenses.
If we just assume her expenses are $60,000 per year gross, that means that all she did was build up a nest egg that was approximately $2,000,000. If we assume her expenses were half of that at $30,000 per year, that means she would have only need about $1,000,000.
Now I’m not making light of anyone saving up $1 or $2 million dollars. Those are both extraordinary amounts of money to say the least! No, the point I’m trying to make is this: She came up with a plan and implemented it. She didn’t just talk about it or wish it would happen. She came up with a goal and MADE it happen.
This is the aha moment that I don’t think a lot of people really understand. A lot of people want to know how to become financially independent and wealthy, but they get stuck on the part about HOW to actually make it happen.
Like many things in life, once someone tells you the steps of what to do, getting there doesn’t seem half as bad. The road to becoming financially independent is absolutely no different.
Steps on How to Become Financially Independent:
Before we get started, I’m going to assume you’ve got down the basics. You probably already:
- Manage your household finances according to some kind of balanced budget
- Have your debt under control to just a few select items (mortgage, car, or student loans)
If you don’t, then you’re not quite ready for the steps in the rest of this post. I’d highly advise that you focus on the basics first before taking on anything more advanced.
If you do, then great. Here’s where we’re going:
Where Does Your Income Come From?
If you’re like most people, then your income comes solely from your employer. If you don’t go to work, then you wouldn’t receive a paycheck and you wouldn’t be able to pay your bills.
And if you’re like most people, then you’re following conventional financial advice to save for retirement by contributing to some kind of employer and/or individual plan (like a 401k and Roth IRA). Your finances probably look something like this:
What do you notice?
Later on in life when we want our income to come from something other than our employers (because we want to quit our jobs and retire), that alternative income will come from one of two buckets:
- Money you can touch before age 59-1/2 (orange)
- Money you can touch after age 59-1/2 (blue)
From each of those buckets we’ll only want to withdraw 3% or 4% each year for retirement expenses so that the money that’s inside them will last us for the rest of our lives.
And so we have a problem! There is no money in our before age 59-1/2 bucket because we have been contributing it all to our after age 59-1/2 bucket. Unless you’ve got an early pension coming or some other type of special accommodation, your bucket is more than likely empty. Therefore the best we can hope to achieve at this point is retiring after age 59-1/2 because we don’t have any other income sources to rely on other than from our job.
Is that really achieving financial freedom? Perhaps for some people. But you’re pretty bright. We can do better!
Why the distinction at age 59-1/2? Sorry, but that’s the way the law is written for accessing most retirement accounts. To touch your 401k or IRA would require paying a lot of unnecessary taxes and penalties; not to mention reducing the future balance of these accounts. There are some special exceptions such as:
However each of these options carries some special rules. For example the leave work by age 55 rule only works if you leave work during or after you turn 55 years old. So if you leave work in your 40’s, this won’t help you.
Likewise if you use a 72T to legally avoid paying the 10% penalty, the prospect of draining out your after 59-1/2 accounts way ahead of schedule is not going to be your best bet on how to become financially independent and stay that way. In general, there’s got to be a better way.
So then what can we do?
Focusing On the Before Age 59-1/2 Options:
A savvy person would look at this phenomenon and try to even out the scales. They would make sure that both buckets of money were getting filled by diverting a portion of their savings into investments that they could also touch before age 59-1/2.
What kinds of investments should you be looking at? Ones with special reduced tax advantages of course, such as:
- Dividend paying stocks
- The capital gains from other types of stocks
- Other high-interest bearing products.
Here’s what your plan looks like now:
But wait – there’s still a problem! Isn’t your income is “finite”? Don’t you only have so much money to stash away into your savings every month; regardless of which bucket we’re filling? Even if we make sacrifices and save more of our income, at some point we’re not going to be able to save any more …
… or are we?
Accelerating Your Progress with Side Hustles and Passive Income:
Repeat it with me:
Your income is never fixed. It is never finite. You are NOT limited by how much money you make at your job.
Most success stories about how to become financially independent usually involve the person being creative about where their income came from. And they do this by going after any of the thousands of passive income ideas or side hustles that are available for the taking!
If you’re wanting to make more money, than why don’t you:
- Make money blogging? – I do!
- Make money on rental properties.
- Make money freelancing?
- And so many others …
Think of the possibilities and how this could really excite your savings. If you even used one of these strategies and made an extra $1,000 per month, then just think of how much faster you’d build up your buckets!
Now your plan looks like this:
With all these additional savings, you now have almost everything you need to succeed at your financial independence. But why stop now? Why not take it to a whole other level?
Knocking Your Finances Right Out of the Park:
If you really want to seal your fate with becoming financially independent, then the next step is to do what you can to turn your side hustles and passive income into fully automated businesses that generate revenue for you each and every month.
Consider your passive income examples from above and how they can be taken up a notch to really go into over-drive:
- Your network of blogs turns into monthly advertising revenue
- You put together a collection of rental properties or even purchase an apartment building where you can make multiple earnings from each tenant.
- You’re able to take on additional freelancing gigs by hiring additional help through virtual assistants, etc.
By relying on your business ventures to generate revenue, not you can:
- Rely LESS on your savings
- Your savings would have a better chance of sustaining itself and possibly last longer than you originally planned
- By not touching your nest egg, now your wealth will continue to grow with time!
Now your financial plan looks like this:
Now you’re set for life!
Financial Independence Starts When You’re Ready For It:
Remember: This is nothing more than a road map. The hard part will be for you to decide that you’re ready to become financially free and then actually making it happen.
Be patient. Don’t get frustrated. You certainly won’t make this happen overnight or possibly even in 10 years. But little by little you will chip away at a mountain until the prize reveals itself. It all starts with whether or not you’re ready to put the energy into it or not. By changing your mindset from “Can I retire early?” to “I will retire early!” will force you to demand results from yourself. You’ll fuel yourself with what it takes to vigorously face every challenge you find along the way. What are you waiting for?
- When Can I Retire – It All Depends On How Badly You Want To!
- Who is the Best IRA Provider When You Don’t Have Much Money to Open an Account?
- My Money Design for How to Achieve Financial Freedom – November 2012 Update
- Finally a Safe Savings Rate for Your Retirement Formula
Images courtesy of FreeDigitalPhotos.net and MMD