There are a lot of misconceptions about financial independence and early retirement. People think you must be "rich" or have a high income if you're able to quit your job before age 50 (or 40 or 30). And sure, having a high income helps. But the key skill, of course, is the ability to obtain a high saving rate.
When I first started learning about smart money management, I thought that financial independence meant just one thing: Having enough cash saved that I'd never have to work again. Financial independence actually exists along a continuum. It's not all-or-nothing, but a series of incremental advancements. It's a process.
Each stop along the road to financial freedom grants you greater autonomy and self-expression, and these are qualities that contribute to happiness.
The first stage (the "zeroeth stage") is actually a lack of financial independence. Stages 1-3 are what I call the "surviving" stages. Most of your work in these stages involves day-to-day household operations. You're building a foundation for greater financial freedom in the future. Stages 4-6 are the "thriving" stages. It's here that you have enough money to make choices that support higher purposes, whatever that means to you.
Let's look at each of these stages in turn.
Stage 0 - Dependence In this stage, your lifestyle depends on others for financial support. We all start here. We're born this way. How long it takes to break free varies from person to person. You're in this stage if you rely on financial support from your parents. You're in this stage if you spend more than you earn (if you're digging deeper into debt). Basically, if you're not earning a "profit", you are dependent on somebody else. You are not financially independent.
After you start earning a profit -- and again, this means you're earning more than you're spending -- you start down the road to financial freedom. Up first are the three stages of "surviving".
Stage 1 - Solvency Solvency is the ability to meet your financial commitments. You reach this stage after you no longer rely on anyone for financial support. This means your income is greater than your expenses (you're earning a profit) and you're no longer accumulating debt. (You might still have loads of loan payments, but you're not adding anything new to the stack.) Some people reach this stage in their teens. Some never reach it.
Stage 2 - Stability You achieve stability after you've repaid your consumer debt, established some emergency savings, and continue to earn a personal profit. It's possible that you still have some "good debt" -- college loans, a mortgage -- but you've paid off everything else and you've built a buffer of savings to protect you from unfortunate events.
Stage 3 - Agency At this stage of financial independence, you have the ability to live and work as you choose. You've eliminated all debt (including student loans and mortgages) -- or you could do so if you wanted. (I know first-hand that there are times you might choose to take out a mortgage even if you could buy a home with cash.) You have enough saved that you could quit your job at a moment's notice without hesitation.
It the final three stages on the road to financial freedom, your concerns move from surviving to thriving. Money is no longer a safety net. Now it's a tool to help you build the life you want for you and your family. Truthfully, that's all money ever is -- a tool to help you pursue meaning -- but most people don't understand they should use it that way. Knowing what gives you meaning and purpose is a vital part of financial freedom. I strongly believe it should be the starting point on this journey.
Stage 4 - Security You reach the Security stage when your passive income can cover your BASIC needs. That is, based on how much you have saved and invested and are earning passively, you could live a meager existence for the rest of your life without worrying about money. Even if you never worked again, you could afford simple housing, basic food, essential clothing, and health care.
(For our purposes here, let's use a simple metric. When I say "investment income", let's just divide your total net worth -- what you own minus what you owe -- by 25. That number is very roughly how much you could draw down each year indefinitely. This isn't exactly right, but it's close enough for the point I'm trying to make. So, if you have $100,000 in saved and invested, we're going to assume you could take $4000 per year for the rest of your life. If this bugs you, substitute a ratio that makes you feel more comfortable.)
Stage 5 - Independence Your investment and passive income can support your current standard of living. The money you have saved and invested would allow you to live like you do today...until the day you die. It covers the basics and creature comforts.
Stage 6 - Abundance In the final stage of financial freedom, you have "Enough -- and then some". Your passive income from all sources won't just fund your lifestyle forever, but it grants you the freedom to do anything you choose: indulge in luxury, build a business empire, establish a charitable foundation, explore the world, build a space program to rival NASA.
Here's the bottom line: The more money you save, the more freedom you have, and the more risks you can take. As your financial independence increases, you chip away at the wall of worry. You're able to make decisions proactively rather than reactively.
I think this roadmap is useful because it makes the concepts of financial independence more achievable for a lot of people. When I talk to the average person about retiring early by saving half her income, her eyes glaze over. She thinks, "No fucking way I could ever do that." It's too great of a leap from her current existence.
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