What is financial independence?

Financial independence means income from investments can cover all personal expenses. By definition, for financially independent people, wage labor is not required for personal subsistence.

It means not working for money.

It sounds like an impossible dream, except, it’s perfectly achievable. That is, it’s achievable for many people.

Since the 2010s and with increasing popularity since the pandemic, evangelists of the financial independence retire early (FIRE) movement have explained how financial independence can be accomplished. In short, a thoughtful and frugal approach to spending, a healthy income, and a high savings rate form the foundation of wealth building. Over the course of a decade, following these principles, the investable capital will grow substantially until it reaches a level that should create financial independence.

The math behind financial independence

If financial independence means investment income produces sufficient income to cover expenses, it’s important to clarify two things.

What is your goal income for financial independence

First, what is the goal income? Everyone is different here based on their life experience, geography, and lifestyle. For example, for families with children, the goal income required to be financially independent and secure may be $10,000 per month.

For another family or individual, that goal income may be $4,000 per month.

Even developing this number can be challenging because without knowing how long it might take to achieve financial freedom, how will you know the cost of your housing? Will you have paid for your home already or will you still have a mortgage payment? Will you move?

Whenever I think of this number for my own family, I always include the cost of mortgage. Here’s a sample budget for a family of four in a mid-price town; the presumption is a double-physician household.

How to determine your goal income for financial independence

In order to figure this out, you can work from your current expenses, for example, last month’s budget. Or you can use an example budget as above and come to an approximate conclusion.

The point is, have a ballpark income goal in mind.

Why is the goal so important?

Because asset allocation is everything when in retirement. Having net worth that does not produce income does not create independence. You need net worth that can create income. And you need to have assurance that your capital will last.

If you still aren’t sure what your goal is for retirement, you should know that…

There are different styles of financial freedom

Now that financial independence is a mainstream idea, we have clever monikers for different levels of financial independence.

1. Coast FIRE means that you don’t have to save anymore. You’ll hit financial freedom based on the savings you have already put aside.
2. Barista FIRE means that most of your expenses are paid by your investment income, but you still might need to work to pay for benefits, for example.
3. FIRE is defined above. Investment expenses cover personal expenses.
4. Fat FIRE is a more luxurious version of FIRE in which retirement does not require strict frugality because there is still high (investment) income.

Why financial freedom is so hard to achieve

I haven’t got proof of this yet, but I do believe that there are a few reasons financial freedom can be very challenging to achieve for most young people.

Debt makes financial freedom harder to achieve

If you’ve got to account for debt payments in your financial freedom goal income, then you’re going to need to save more to achieve financial independence.

Lack of focus on financial independence

You’re more likely to accomplish the hard goals if you exert intentional effort. It’s just not as likely that you’ll achieve a goal that requires a great deal of hard work unless you are trying.

Very few people can accidentally run a marathon.

It’s easier than ever to spend your hard-earned money

There is less friction than ever to purchase items, necessary and absurd, from the internet. Think about how short a time exists between imagining something and buying it.

But the purchases that benefit our financial freedom are income-producing assets. And we only have a finite amount of income every month.

Why is financial independence important for everyone

I have previously written that all physicians should achieve financial freedom. Given our mix of high income and high intelligence, we are natural candidates to be wealthy. There are many reasons physicians do not represent the highest proportion of millionaires, but that is not the purpose of this article.

Everyone should seek financial independence. The most important reason is that financial security contributes to our overall well-being. We are less likely to become ill if we have higher socioeconomic status. We are less likely to be depressed and experience psychological stress if we have higher incomes.

Another, less inspiring but no less urgent reason to seek financial independence: We are all one catastrophe away from never working again. Depending on labor income for our whole lives is a risky proposition.

It’s not too late to start your journey to financial independence

While complete financial independence may take many years to accomplish, creating better financial footing may take a few months or a few years, depending on your situation.

Start by understanding your personal finances first. There are many books on personal finance, but one of the best for beginners is Dave Ramsey’s Total Money Makeover. His no-nonsense approach will help most get started. For physicians, the definitive guide is Jim Dahle’s White Coat Investor.

Don’t wait to start!

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