So, what is financial freedom and why is it important?
Most people are dependent on their active sources of income for most of their lives. Active income essentially means doing something to earn income to support various expenses in life. In most cases, that means exchanging your time and skills for money – which then determines your expenditure and savings.
Most people find themselves in this rut for most of their lives. And while their incomes might increase over time – either fast or slow based on individual circumstances – somehow they never find themselves in a position where they can leave their main source of livelihood/ active income.
Financial independence is essentially the quest towards removing that dependence on active sources of income, and hence, being able to support your expenses and lifestyle with income generated from financial assets.
What are the factors that hinder financial independence?
Firstly, Savings is the single most important factor in achieving financial independence. Financially, you are not what you earn but you are what you save out of what you earn.
Saving = Earning minus Spending
Most people measure themselves by their Earnings – and unfortunately forgetting that it is the saving that matters – for long term financial security.
Secondly, Inflation is the second biggest hindrance. Money loses value over time – the reason being inflation. The slow poison or indirect tax – whatever you may call it – inflation is the phenomenon of increasing prices leading to the creeping depreciation in the money earned and saved.
Even if they may be saving, most people have no clear sense of the impact that inflation has on their savings as our brains are simply incapable of quantifying long-term inflation impact unless we get there.
Thirdly, Education is the third biggest hindrance. While one may appreciate the value of savings and the need to fight inflation, most people don’t have any idea on what to do to put their savings to work. Formal financial education is not included in any of our educational courses – even management and accountancy courses don’t have them, forget about other professional or basic degree courses. I have been unable to find the reason for it – but our education system is focused on providing skills for earning, but not on imparting skills on how to financially manage the earning.
Finally, Time and our ability to gauge the impact of time is the last hindrance. The effect that the first three factors above have over long periods of time is astounding any which way you see it. So if you lack in savings, have no ability to fight inflation and have no financial education, and you let these three combine over 20 years, you will find yourself in a reasonably miserable financial condition – without quite realising it – perhaps till you get there.
And if you actually have the three factors working in your favour – adequate savings, the ability to beat inflation and the education on how to manage your earnings – and let these combine over 20 years, I can assure you that you will be surprised by the extent of positive results. It is an almost sure shot way of achieving financial independence.