5 Levels of Financial Independence

What exactly is financial independence? Financial independence (aka financial freedom) differs from person to person, however, it is commonly defined as when your passive income (from your own business or assets) exceeds your expenses. At this point, you can then live the life of your dreams, and you won’t have to work as an employee any longer!

This is a very simple concept that we use to help us see money, wealth and financial freedom from a new perspective. We usually don’t think much about financial freedom. Instead, we see retirement as a savings goal. You need to save now so that you can quit your job and retire after 50 to 60 years. This is a concept that is difficult for many to understand.

Many people in their 20s don’t think too much about their financial future 40 years from now, so it is often hard to save diligently. Once in their 30s, people generally take on a bigger sense of responsibility and begin to save more aggressively (let’s hope). By the time most people hit 40s, savings is (or should be) a top focus to ensure they hit their financial goals of paying for education, that new home, health care, and of course, retirement.

All along, we should have started saving aggressively from day one, so you can achieve financial independence as soon as possible. As we say at Nudge Money, save until it hurts and then save some more.

Let’s explore the 5 levels of financial independence:

1 – Foundation

You have an understanding of where you are and where you want to be financially. At this stage, you should no longer be dependent on others to cover your own expenses. At this point, you will generally have less than 6 times your monthly expenses saved for emergencies.

2 – Stability

By this point, you should have enough money saved for emergencies and are no longer living paycheck to paycheck. Your emergency fund should be at least 6 times your monthly expenses, while you are continuing to save each and every month. You will likely have a sense of stability in your finances and now starting to generate a healthy savings for the future. Hopefully by now, you have created a financial plan, so you can start to envision what your financial life will look like many years from now.

3 – Flexibility

Your emergency fund is well-stocked, and you have been diligently savings money for those big financial goals in your life. At Nudge Money, we believe this point in your life is somewhere around 2 years (24 times) your monthly expenses saved. You will likely have a sense of flexibility and ability to do what you want without the burden of pinching pennies. Go ahead and add that avocado to your Chipotle bowl!

4 – Financial Independence

Now you no longer have to work. Either you have saved enough money to officially live off of your assets, or you have enough steady passive income that it will pay for your lifestyle in perpetuity. Give yourself a pat on the back, because you’ve done it. This is the moment we’ve been waiting for. You can see if you have achieved this in the Nudge Money financial planning tool, as it will take into account your assets, inflation rates, expenses, and more to understand if you are financially independent today.

5 – Abundance

This is the dream level. You have more than just enough to stop working, but you have enough assets to accomplish more, which would mean a number of things. When you have an abundant amount of wealth, you can spend more on your living expenses, give to charity, give more to family, or just be more conservative in your investing and planning. There are a number of possibilities when you have achieved this level. At Nudge Money, we generally consider this level to be two times the amount of assets and/or income needed to fund your living expenses for the rest of your life.

Wherever you are on your path to financial independence, it’s important to have a plan. A plan will help you envision what is important to you now and in the future, then identify the specific actions needed to achieve those goals, such as how much to save each month. We wish you all the best of luck in your financial journey. We are always here to support and guide you along the way.