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The Definitive Guide to Achieving Financial Freedom
Achieving financial freedom may always seem like a far-off dream most people can't reach. There are, however, clear-cut strategies that anyone can use to increase their wealth.
This guide offers steps that you can put into practice immediately as you work towards financial freedom. With time and practice, the strategies outlined here can dramatically lower your debt and increase the balance of your bank account.
Understanding the Concept of Financial Freedom
What is financial freedom? Financial freedom is a fairly broad term that has a different meaning for different individuals. For some, financial freedom is earning $1,000,000 a year; for others, it may be making $60,000 a year but not having any debt.
For this guide, we'll define financial freedom with a four-prong approach to overall financial wellness:
- Having a steady income source.
- Having a keen understanding of your income and expenses each month.
- Being able to stick with solid financial wellness practices for the long-haul.
- Changing your mindset from consumer-driven to savings-centric.
Financial freedom is more of a mindset than a physical state. True, your debt load will be less and your wealth-generating abilities increased, but financial freedom requires you to think about spending and saving differently. Getting out from under debt gains multiple benefits—both physical and mental, as well as monetary. Worrying if you're going to be able to cover your rent next month, your debt load, your savings—are all, in essence, anxiety about money. Financial peace, therefore, is helping to diminish or even eliminate this stress from your life.
Like a new fitness program, financial peace takes hard work, time, and dedication to see great results. Some start to see progress and then fall back into old habits that can lessen the impact of following a program. However, with just a little bit of discipline, you may be able to increase your wealth over time.
Performing a Financial Wellness Check
The first step in your path to gaining financial freedom is to take an honest and factual assessment of your current financial state. Open up your bank account, credit card account, car loan, mortgage, and other sources of monthly plusses and minuses.
While this may seem daunting at first, you need to be familiar with all the platforms affecting your money each month. We'll walk you through a quick financial wellness checkup to help you get a good idea of where you are currently.
We'll start by looking at a few basics of personal finances. Ask yourself these four questions:
1. Are you spending more than you make each month?
Living within your means may be one the easiest to understand yet hardest to implement of all the financial freedom principles. It's so easy to click and forget about how a purchase affects your monthly income, especially with online shopping. Look at your statements and calculate how much your job pays and how much you spend. Thinking like a business owner, compare the end figures and see if you're operating your household "in the black" (a positive number) or "in the red" (a negative number).
2. Do you contribute to any retirement account(s)?
There are many different forms of investments that are easily set up in minutes online. If your employer offers a company match, take full advantage and contribute up to the limit if you're able to. Employer matches are one of the most efficient ways to grow a retirement account. If not, don't fret—start with a monthly recurring amount and keep it consistent. You'll be surprised at how even small contributions can really add up over time.
3. Do you have an emergency fund set up?
Financial experts usually peg the figure at maintaining three to six months of savings that are liquid (easily turned into cash) to help cover unexpected expenses. If you lose your income source, you need to expect a reasonable amount of time will elapse between getting your last paycheck and when you start getting a new one. Think of this fund as your insurance policy, except you won't ever have to haggle with an adjuster.
4. Do you utilize a low-interest credit card such as what’s offered by credit unions?
High-interest credit card debt is a very easy trap to fall into and can be difficult to pay off. Department stores, automotive service centers, and even colleges offer their own credit cards but these can come with high rates of variable interest. When you need to use a credit card, do so wisely. Seeking a low, variable rate credit card can help you pay less in interest each year.
These four principles will help get you started to understand where your money is being spent today and where it could be down the road. Mastering financial freedom takes envisioning how your everyday spending habits affect your financial wellness long term.
Mastering the Art of Budgeting
Budgeting is simply monitoring how much money comes in and how much money goes out each month. Once you start seeing what you're spending your money on, you can better understand needs versus wants. Gaining financial peace means having the discipline to stay away from frivolous purchases by keeping your eye on the prize.
Budgeting can be tedious, but once you get in the habit of setting and tracking your income and expenses, it will become second nature. The best part is you can find free apps and programs to make budgeting a cinch. It may help to find an app or program you're comfortable with and stick with it.
When you've calculated your monthly debt and your monthly income, you can calculate a very helpful figure known as the debt-to-income ratio. Dividing total debt payments each month by how much money you make in the same period should give you a fraction. Multiply by 100 to see a percentage point. Sound financial management principles include keeping your debt-to-income ratio at or below 35%.
How to Pay Down Debt Faster
The best way to start tackling your debt payments is to complete the budgeting phase outlined above. Going through the budgeting process helps you understand how much money you'll have to put toward your debt, and you may discover areas where you can find additional funds to pay down your debts more quickly.
Financial peace means not having the stress and anxiety weighing over your head that debt brings. The good news with debt is that it is finite. You can work out a plan to pay down your debt, and if you're aggressive enough towards wanting to live debt-free, you can actually pay down thousands of dollars of debt in just a few years.
Pay Down High-Interest Debt First
The most direct and quickest way to pay down debt is to look for any high-interest debt and focus on paying this down first. Paying it off with extra principal payments each month will lessen the interest you end up paying on those balances. Double-digit interest rates like those on credit cards should be at the top of your list to pay off first. Continue making the minimum payments on all other debt, but direct any surplus towards paying down your high-interest loans.
While it may seem counterintuitive to incur more debt, it can be beneficial to take out a personal loan at a lower interest rate to pay off high-interest loans first. We’re not saying that credit cards are evil—in fact, they can be quite useful tools when used correctly. Wisely utilizing your credit card and paying off your balance each month also helps to build a good credit history and can result in ancillary benefits like cash back or points for travel.
Building Momentum with Paying Off Debt
Paying off high-interest debt first allows you to then focus on your smallest amount of debt regardless of the interest rate. Paying off small debt loads is more about a behavior change and seeing the small victories add up. Put your surplus on your smallest loan and, when paid off, you get the satisfaction of crossing a whole piece of debt off your total. When you get to see and recognize progress, it makes sticking with your financial wellness plan all the easier. The longer and more serious you are about taking real steps towards financial freedom, the better your results will be.
Refinancing Loans & Negotiating with Creditors
Any time interest rates are falling below what you have in place is an opportunity to save money over the life of your loan by refinancing your existing mortgage or other debt. Even a half of one percentage point lower on a 30-year mortgage will result in thousands less in interest accruing. And it's all the better if you can consolidate several debts into one with a lower interest rate, saving yourself a good amount of interest.
Creditors may also be amenable to your request to extend you more manageable payment terms or settle your debt for a lower amount. Financial freedom is about taking responsibility in your hands to get out from under the weight of debt. Don't be shy about being proactive in your quest to eliminate debt from your life—you'll be surprised how many creditors are willing to work with you.
Where to Find Discounts Online
Online retailers are making it increasingly easy to find a good deal with various loyalty programs. Boosting your efforts towards financial freedom is taking advantage of all the "freebies" like these that you can get your hands on.
Places to look online for easy sources of savings include:
- Signing up for member discounts and getting deals and coupons sent to your inbox.
- Using online coupon code searches before checking out.
- Joining a service that gives cash back for scanning your receipts or buying through their app.
- Signing up for a free sample from a manufacturer. Many companies, for everything from dog treats to shampoo, will send you a sample completely free.
Thinking About Investments & Retirement
The "time value of money" is an economic principle that many are familiar with. The idea is that the longer your money gets to sit in an interest-bearing account, the larger the snowball of savings is. Keep in mind that even small contributions really add up over time, so start with anything you can. Even investing $5 a week will generate returns over the years.
Savings, whether through at-work contributions, self-directed retirement accounts, or simply a savings account through your favorite credit union, are ways to put your money to work and cultivate more wealth. A good target to shoot for is saving/investing around 15% of each paycheck. History shows that the single, best approach to investing is a consistent approach. Channeling what may have once been frivolous spending in your monthly budget towards investments can really propel your goals towards financial independence.
Some of the more common investments you can open as an individual or through your company include:
- 401(k): The 401(k) employer-sponsored retirement savings plan gets its name from the IRS code that sets the requirements for contributions. Typical in large corporations, employees can contribute a portion of their paycheck to a 401(k), which lowers taxable income. Many companies will also include a company match.
A company match is one of the easiest ways to earn a fantastic return on your investment, so always make sure to maximize this contribution. Here's how it typically works. If your company says they'll match your contributions up to 6%, and if you invest 6% of each paycheck, your company will match that amount with their own contribution.
That means that your 6% investment just doubled instantly—with no additional risk or effort on your part whatsoever. No other investment in the market is ever likely to get you this level of return, nor this low level of risk.
- Traditional IRA: The individual retirement account (IRA) allows you to save money for retirement by deducting your contributions on your individual tax return. These investments then grow tax-deferred until they are withdrawn at retirement.
- Roth IRA: A Roth is the opposite of a Traditional where contributions aren't deducted from your tax return, but qualified distributions would be taken tax-free at retirement.
- SARSEP: Some smaller companies offer this type of retirement plan. Like a 401(k), Salary Reduction Simplified Employee Plans are pre-tax deductions made by deducting the amount from each paycheck.
- Certificate of Deposit (CD): CDs are savings accounts with a fixed rate and fixed term. The investment is not as liquid as a cash account, and you can incur a fee if the funds in a CD are prematurely withdrawn. However, for cash that isn't needed for a specific time, CDs are a safe and stable investment vehicle with higher interest rates than regular savings accounts.
- Annuities: These require an initial investment in exchange for a future payment or stream of payments. Annuities are an insurance contract many individuals use to help fund their retirement because of its inherent stability and ancillary tax benefits.
Remember, even if you're making double-digit returns in your investment portfolio, any high-interest debt like on your credit card will detract from your overall rate of return.
Seeking Ways to Pay Less in Taxes
Benjamin Franklin is credited with the quote, "In this world, nothing can be said to be certain, except death and taxes." While tax season may make you cringe each year, there are some strategies to explore with your tax specialist that may help lower your tax liability.
1. Review last year’s return with a tax professional. Did you pay a large tax bill you weren’t expecting? While there can be many reasons for this, your tax specialist may be able to spot tweaks you can make going forward such as raising your withholding amount on your W-4 form you have with your employer.
2. Exploring contributing to a retirement account. See if your workplace offers a 401(k) or SARSEP and discuss with your tax advisor the best strategy for taking full advantage. Personal IRA accounts may also help to maximize your contribution potential.
3. Discussing deductions with your tax advisor. Go over all of the many deductions that may be available also to help lessen your taxable income with your tax advisor to find out if you are eligible. There are deductions for work-related items like home office deductions, deductions for charitable giving, education-related deductions for things like student loan interest, and many others.
4. Ask your tax specialist for help finding credits for individuals. The IRS offers a slew of tax credits that may be available to you, including family and dependent credits, homeowner credits, and more. These credits may help subtract from the total tax you may owe and may even translate to getting a bigger refund. Your tax professional can help you determine the filing requirements and dependency status for the different credits available.
5. See if a discount is offered for filing taxes early. The IRS lists several free and discounted options for individuals filing Federal returns. When using a tax return preparation site, you may also be able to get a discount when you file by a certain date. These companies want to avoid the tax-time rush as much as you do, so many offer discounts for getting your taxes done early.
6. Keep cleaner financial records. Following financial freedom strategies can have ancillary benefits come tax time. With budgeting and keeping a better eye on receipts and statements, you'll have more of the information your tax specialist will need to file your return accurately. Your tax professional will also need to have forms like the W-2 from your employer and 1099 forms from banks and other institutions. In most situations, the IRS suggests keeping records for three years from the date a return is filed.
A CPA or tax specialist can help guide you when it comes time to file your taxes, and online tax preparation services are plentiful. Sticking with the financial wellness strategies we've outlined here can help you better weather tax season each year.
How Repair vs. Replacement Can Save You Thousands
Consumers love new things—new cars, new appliances, new furniture. But these things all come with hefty price tags. The seller may advertise easy financing options, but with interest and terms being relatively high for these purchases, the total amount you'll end up paying can far outweigh the item's value.
In some cases, you may be left paying for something no longer even providing the service it was intended to. Especially with vehicle purchases, finding a model that's even a year or two older will save thousands. Many home goods retailers have a "scratch and dent center" where you can buy brand-new appliances with minor imperfections at drastically discounted prices. Remember that financial wellness is all about the mindset that you don't have to pay full price to get the same level of utility and quality.
With the proliferation of video sharing, you can now find repair videos easily online for so many different applications. A quick internet search can help you find the parts, and watching an expert perform the repair step-by-step can make the process easy. You'd be surprised how much you can accomplish and how much you'll save versus calling on a professional to do that same job.
Setting Up a Roadmap for Financial Freedom
The road can seem daunting, and there is a lot of work involved with striving for financial freedom. You'll have to sacrifice some wants for your needs, be disciplined for the long-haul, and change your behavior to really see great results. But once you get into the habit of seeking financial independence, you'll never look at spending the same way again.
If you need help with prioritizing goals, setting up a good strategy, or measuring your progress, check out our Financial Wellness page for additional resources or contact our Credit Solutions department with questions on your SCCU loans.