FI is about increasing cash flow to have more invest-able dollars. So earn more, spend less, invest more. Simple, right?
To have more money to invest, you must get control over your cash flow.
Imagine a special bathtub – the faucets pour money into the bathtub and the expenses drain it out. The amount of water (money) in your bathtub is your cash flow.
Each faucet is a source of income.
If you only have one person holding one job (one wage-earner) for the family, you have one faucet. If you have two wage earners you have two faucets. If one of the wage-earners also has a part time job, that is a third faucet. If you have rental property, that is faucet number 4.
You control the number of faucets and the amount of money they pour into the bathtub (well you can try and control this – life may get in the way).
Ways to increase the amount of flow from a given faucet:
- get better at your job, get promoted, get higher ratings, or get a better job to earn more.
- charge more rent if the market will bear it (be aware of your market)
- invest in smarter mutual funds, ETFs, or (I would caution against this) individual stocks.
- shop for better rates on your savings accounts and CDs, wherever you are storing your emergency fund.
Multiple faucets are a hedge against unexpected circumstances: getting layed off, getting injured, anything that takes away your primary source of income. These faucets can provide a great cushion.
Interupting this Post for a second – just got my annual bonus. This made me realize that my job actually has multiple faucets as well: My salary, my annual bonus (which is a function of achieving corporate and financial goals), my ESPP income, specific project bonuses, business travel rewards (I don’t earn a lot of them, but others do) and my cell phone. Some of this is expense avoidance, but it all helps the bottom line. Learn what income sources are available at your job and use them to your full benefit.
Of course the other end of the equation is the drain. Expenses are a drain! If the money is going down the drain faster than the faucets are filling up the tub you will of course have an empty tub – you will be broke – you will end up borrowing money from another faucet called debt. Not a good idea*.
So your other goal is to stop/slow down the money going down the drain. There are many suggestions on many websites on how to do this. Some basics: Ditch the expensive cars and car leases, get intense about getting out of debt, reduce eating out, if you don’t have the cash, don’t put it on the credit card.
If you are not intensely aware of your expenses, start recording them and develop a basic budget.
Your goal is first, to have more money coming in then going out every month and second, to get past living paycheck to paycheck. You will begin to gain control of your finances when the money used to pay a given bill was earned some number of paychecks ago. The more the merrier.
A wise man once told me that it is easier to solve the problem of having too much money to spend than not having enough. That is where you want to be. Then you will start learning to invest.
If you need some pressure to get going, the smart thing to do is to pay yourself first. Arrange for money to be deposited in an account other than your checking account each pay period. This money becomes your emergency fund and then your investment pool. Survive on what goes into your checking account. You will force yourself to make smarter choices.
Net Worth
Your net worth is simply the difference between your assets and your liabilities: What you own minus what you owe. For the FI community the asset focus is on invest-able and income producing assets: Your retirement funds, your post tax savings and investments, your real estate.
Pay off debt except mortgage, then invest as much as possible into various investments to create multiple faucets. Your increase in net worth will fund your retirement so get started! You want this bathtub to hold as much water as possible as soon as possible, so the best time to start is NOW.
When your investment income covers your expenses you are financially independent!
*Debt used to fund some investments, under the right circumstances can work, as it provides leverage. However, leverage is a double edge sword. This tool must be used with caution. One secret of building wealth is OPM, Other People’s Money. Get control of the fundamentals before you explore this idea.