If you want to become financially independent, you’ll need some stamina. Sure, there are extreme examples like Jacob Lund Fisker who was “done” after five years. But Jacob does have a VERY reduced lifestyle for someone from western Europe living in the US.
And even if you are fine with the less crass but still frugal life philosophy MrMoneyMustache evangelizes you’ll need some wind behind your tails on the stocks or real estate markets to reach a goal like this within 10 to 15 years. I would rather go for a deadline of 20 years minimum. So how can you stay motivated on such a long-term project?
How to stay motivated for the long-game
For a start, it will be quite helpful to stick around the FI(RE)-Community and get in touch with like-minded people. That’s particularly important as mainstream society is very much set on consumerism. So you’ll most likely encounter a lot of scepticism in your real-life environment. And I’m sure that those voices will grow even louder as soon as we see the next correction in the stock market. So you’ll have to develop some thick skin in this regard.
And if you tick like most people you’ll have to concur your weaker self again and again. Which can be quite challenging. That’s why I have an idea for you that will help you mentally shorten the path to your financial independence.
Setting intermediate targets
In any case, you should set some intermediate targets. I’ve made some suggestions for you here. Feel free to check out that post if you haven’t yet thought about how your financial independence plan could actually look.
But you can make things more tangible than that. For your long-term plan you’ll be calculating with a multiplier of your total monthly or annual expenses. We’ll now be breaking that down again. You have started to track your spending by now, right?
There are big ticket items such as your rent, groceries or the cost of your car. But I’m sure you have some small expenses like magazine or Netflix-subscriptions, or your mobile phone contract. Sure, if you want to become completely financially independent, all your costs will have to be covered by income streams independent of paid employment at some point.
But how cool is it, when your “passive” income covers your Netflix-subscription? And then your phone contract? And then the gas for your car?
So I would suggest that you don’t focus on the big number that you need in the end. But on short or intermediate goals like your emergency fund or your annual expenses as dedicated “Fuck-You-Money”. And as soon as you saved up your emergency fund, I would start thinking in covered expenses that you can check off one after the other.
As you want to see a success as quickly as possible, it makes sense to start with your lowest expense. That’s basically the same logic as that behind the “debt-snowball” when getting rid of consumer debt. Only we use it as a mental stimulant while building up your net-worth.
So how do you calculate when an expense is covered by “passive” income? I wouldn’t make it more complicated than necessary and use the 4% rule (of thumb). You can use your individual numbers as well of course, for example if you have rental income. Or shares paying out fairly reliable dividends that you never want to sell. But as I said, I’d keep it simple at this point. You can do the fine tuning when you get closer to your goal.
Let’s stick with the Netflix example. We assume that’s a monthly expense of 10.99 EUR. For a year that would add up to 120.78 EUR. You invest your savings rate into an ETF savings plan on the MSCI World or the FTSE All-World and we apply the 4%-rule. So you’ll need a capital of 3,019.50 in your ETF to cover your Netflix-subscription indefinitely. (Inflation is already taken care of in this calculation. For more details just have a look at my post on the 4% rule).
Important caveat, just so there’s no misunderstanding: While you could pay a given expense from your “passive” income already, you’ll not be doing that at this point of course. You want your net-worth to continue to grow and cover your other expenses in the long-term as well. So: check off that expense – I would visualize this, that’s a real motivational booster – and continue to save and invest.
Compounding for extra wind behind your tail
And what if you think, okay 3,000 EUR is not that much, but for the big expenses I really need A LOT of capital? That’s right, bigger expenses require a bigger stock of capital.
But don’t forget how compounding will actually help you build your net-worth over time. And the effect is stronger the longer it can set to work. If you look at your path to financial independence as a marathon rather than a sprint, the power of compounding will really propel you forward in the later years of your journey. And since you’re working your way up from the smaller to the bigger monthly expenses, your net worth should have grown considerably – assuming average return rates – when you’ve reached the “big ticket” items like your rent.
At the same time, the correlation between the size of an expense and the capital needed to cover it indefinitely is a useful reminder that it could be helpful to consider some cut-downs from the current level. I’ve compiled some ideas for you on savings regarding housing, food, transportation, DIY, and electricity, heating, insurances…, just check them out.
Two more rules of thumb
There are two more rules of thumb if you quickly want to calculate what specific spending patterns are costing you with regard to build-up of net-worth. They’re called the 752- and the 173-formula. What are they about? Those formulas give you a rough guide how much capital you will have built up within 10 years if you forego a weekly (752-) or a monthly (173-) expenditure and invest the money in a broad world ETF (the formulas assume an average stock market return of 7%). That’s obviously not an exact number, but it’s a good indication for the scope.
To stick with the Netflix example: Let’s assume you have an Amazon Prime subscription as well. Do you really need both subscriptions? If you cancel the Netflix subscription and invest the 10.99 EUR in your ETF instead, you should have grown an additional capital of 1.900 Euros after 10 years. And if you only spend 5 Euros for a coffee and a sandwich on your way to work on Mondays and Fridays instead of every workday, your 15 Euros saved per week will have turned into 11.280 Euros. That’s quite amazing, right?
Do not save for saving’s sake
I have to say that I would totally underestimate the long-term implication of expenses like the coffee or sandwich to go. Even without the effect of compounding. But on the other hand I would not start cutting everything that gives me even small joys only to accelerate building my net-worth.
You’ve got to find the right balance that works for you. That might be a burst of super-saving, to then change down a little as well. It’s all good – the main thing is to stay the long game. Just believe in yourself, I’m sure you’ll make it.
Financial Independence Rocks!