Six-and-a-half steps to financial independence

How do you define the word independence? For some, independence is doing what they like. For others, it’s liking what they do. Whatever it is, there’s always a price to be paid for the freedom you enjoy. Similarly, to be financially independent, you need to take a few steps, some of which could be painful. Nonetheless, each step will bring you closer to independence.

Step 1: Begin with goals.“In every walk of life, you need to set goals and have a plan of action to achieve those goals. Even watching a movie is a goal, where you need to chose which, where, when and the type of ticket you will purchase,” says Parag Paranjpe, Certified Financial Planner. In fact, unless you have a plan, you will never achieve the goals. “The first step of financial freedom is identify the goals. Don’t worry about how you are going to achieve those goals at this stage. Once the goals are identified, quantify the goal and next set the time frame to achieve the goals,” Paranjpe says. There could be three type of goals based on time frame: short term (less than 3 years), medium term (3-7 years) and long term (more than 7 years). Of course, you will have to factor in assumptions and all the possibilities which could derail your move towards achieving these goals.

[caption id=“attachment_1035621” align=“alignright” width=“380”]  To be financially independent, you need to take a few steps. Reuters[/caption]

Step 2: Make a budget and stick to it. Once you have set your goals, do reality check of your current financial position. In other words, make a budget. For this, you need details about your income, expenses, total debt and net worth. Then you need to identify your spending pattern and analyse what you spend and why. To know how to make your monthly household budget, read this _Firstpost_ story.

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**Step 3: Manage risks.**The next step to financial independence is managing risks. “A major aspect of financial independence is freedom from fear of unforeseen circumstances, like a job loss, health issues or death. Hence the need to have a contingency fund, adequate health and life insurance cover,” saysGaurav Mashruwala, aMumbai-based Certified Financial Planner.Having this trinity of adequate emergency funds, health cover and life insurance, will put you on the right path of financial independence. “Have at least three month’s expenses kept aside as an emergency fund,” Mashruwala says.This includes monthly living expenses, lifestyle expenses as well as EMIs for your loans. Over and above your employers’ insurance policy, get yourself and your family a separate health insurance policy. For life insurance needs buy a term policy online, as it’s cheaper than offline policies. Life insurance cover should be equal to 12-15 times your annual expenses or 8-10 times your annual income. Remember to take into account debts (like a home loan) you owe while deciding a term cover.

Step 4: Get out of debt.“Getting out of debt is also a financial goal and you will need to work towards it like any other goal. If you have investments where you get less returns than the interest you pay towards loans, it’s wiser to get rid of the debt, by selling those investments,” Paranjpe says.What’s the point of you getting a rate of return of 8 percent on an FD, when you are paying a 40 percent interest on your credit card. Read here ourstep by step guide on how to get out of debt, published on 15 August last year.

**Step 5: Investments and retirements.**As you take these steps and advance in your career, you would have a surplus which needs to be converted into investments to meet financial goals and retirement goals. Ideally, as far as overall investment goes, have a healthy mix of equity and debt, based on your risk profile. You could go for age-based asset allocation but many planners believe that age-based asset allocation is for lazy investors. Rather, plan your portfolio based on your risk-taking capacity and the returns you need to meet your financial goals. For retirement planning along with investments, your Employees’ Provident Fund, and the Public Provident Fund should work well. In the past we had recommended NPS. But with the latest changes in the NPS guidelines, we suggest you stay away from it.

Step 6: Use technology. Today you can use technology to help you become financially independent. So set reminders for bill payments on your mobiles, and you won’t miss paying them. This will help you save on late payments fees. You can also pay bills and make disciplined investments via SIP using auto-pay facility with your bank or setting ECS. There are a number of expense trackers and money manager websites which you could check out, and see if they work for you. They say, it’s the little foxes which spoil the vine. This stands true even when it comes to your financial independence. To ensure that your financial basket does not have a leakage use technology to your advantage.

Step 6.5: Mind over matter:“You could have all the money in the world but still not be financially independent. If financial independence is about a number, your security will come for that number and soon that number won’t be enough. You may have the money and still not enjoying it. Real financial independence is not about a number, but the mind,” Mashruwala says.So, even if you can afford to go on a vacation to Switzerland and still deeply worry about daily NAV movements, you really are not financially independent. So remember, real financial independence is when money is not the source of your secure feeling, status, ego, self esteem, greed or even fear.

Financial experts, financial media, and debt counselors can help you achieve with the first six steps. The last half step is something you will have to figure out on your own. Happy independence day.