Financial freedom!! A stage that culminates your long career into a happy relaxed retired life when you don’t have to work for your sustenance anymore. Your savings work for you to live your life happily as the wealth created by you over a span of 30 years starts generating a passive income. This could be, a regular flow of interest from Bank Deposits/ Dividends from the Stock market/Mutual Funds or Rent from the property you own. Looks interesting!! However, the fact remains that most people fall short of their targetted goals due to a lack of planning of their personal finances.
Financial freedom can easily be accomplished by managing your Personal Finances well. Sit down with a piece of paper and pen to scribble the details about your income and expenses at the end of every month. Find the difference between your income and expenses. Yes! This is your cash flow statement. You ought to know about your monthly income and expenses like your salary, Rent, Utilities, car expenses, Interest/Insurance, etc. A perusal of your monthly expenses will provide insight into the nature and relevance of each and every amount spent during the month. well!! You are already on your way to financial Freedom if your cash flow is positive. However, friends, if your expenses are more than your income then you need to sit down and find out where are you going wrong.
“Do not save what is left after spending, but spend what is left after saving.”- Warren Buffet
SOS:Income-Expenses= Negative. If you are spending more than your income, the cash flow is going to be negative indicating you are either using your credit cards or raising loans from your resources for making both ends meet regularly. You don’t appear to have control over the expenses and taking the liberty to spend more than what you are earning. Do you believe this is a happy situation in the long run? Certainly not!! You are destined to be doomed if you don’t check your Finances immediately. Let’s take a case of income expenses statement of Mr. A for Nov 2020:
| November 2020: Income | Dr | Cr |
| salary | 50000 | |
| Expenses Nov.2020 | ||
| Utiilities | 20000 | |
| Rent | 15000 | |
| Car Loan | 10000 | |
| Insurance/Petrol/Interest | 12000 | |
| Cash Flow | 57000 | 50000 |
The above illustration reveals a negative cash flow of Rs.7000/- as the expenses happen to overshoot total income. Mr.A needs to check expenses or raise his income level to be more comfortable with his finances in the future. Now let’s have a look at the table, you will find that the chances of curtailing expenses are possible through Utilities/Rent only as other expenses are more or less of fixed nature. Mr. A will have to either shift to some alternate location where he could rent a house at lower rent or cut down his expenses on utilities to bring back his cash flow from negative to positive.
With a little bit harmonization in your expenses, you can see your life turning into bliss. This is how you need to manage your personal finances for achieving Financial Freedom. You must remember and need to pursue your goals with FIRE::
FIRE: Financially Independent Retire early:
Management and planning of Personal Finances warrant you to Become Financially Literate. There is nothing technical about it but continuous monitoring of your income and expenses will do the trick for you. Once your path is illuminated with the wisdom of Financial Literacy, you can be assured of attaining freedom sooner than expected. Incidentally such an important subject doesn’t find a place in the curriculum of school or college studies across the world. The sole purpose of education remains in producing Clerks/Engineers/Doctors only and no effort is made for equipping the students with tools for managing personal finances.
May the fault lies in our education system which never enlightens us on managing money matters. Normally every child looks up to his parents for all Financial decisions till he actually starts earning. The child never grows up to tackle financial matters independently. Moving from schooling to college degrees, he keeps improving his grades without ever being told about the intricacies of this very important subject of Personal Finance. Campus placement or getting a good job remains the only exciting factor in his mind
let us start with the expenses part which plays important role in budgeting your finances. Your instinct for spending more goes berserk on finding liquid easy access to money. You must understand that the credit cards and other avenues are designed to meet your emergent temporary requirements. The credit cards are meant for day to day bills only. No long term borrowings!! In no case payment of the credit card bill be made in part or with a minimum amount. Banks/Credit Card Companies play with your mindset always trying to tempt customers for making a minimum payment of bills. You feel temporarily relieved of the pressure by not making full payment of the credit card bill but this trap leads only to make you broke in the future as interest rates charged by the Credit cards companies on the unpaid balances are astronomical.
The balances keep accumulating and suddenly, you will find the credit card companies declining further usage as the limit has been exceeded due to the interest factor. I would recommend auto-debit of credit card bill linked with your Bank account
Let’s understand the two types of credit which you are using in your life. There is good credit and bad credit to name the two. Good credit provides you liquidity at a cheaper rate for the creation of appreciating assets, whereas bad credit will make you pay higher rates for the creation of assets decreasing in value. You need to buy/invest by using bank Loans/Finance Companies only when the asset created by such finance is of appreciating nature. Buy a house/Gold/Stocks or any other investment which is bound to increase in value, it’s a good borrowing.
However, if the asset is of diminishing nature like Car/TV/Costly Electronic gadgets/Furniture etc then you need to re-evaluate the project as rates on this credit are high and the value of items is bound to decrease in the future. This is certainly a bad credit. Since none of these articles are of emergent nature, you can plan and buy by saving from your monthly expenses
Which type of credit do you think will be better? The answer looks imminent when you find items purchased by good credit increasing in value every year and at the same time, the bad credit besides being costly helps only in adding articles getting depreciated in value over a period of time.
Now coming to Positive Cash Flow, You will find a certain amount in your Bank account after spending for expenses at the end of every month. These surpluses can be used for making extra payment for reducing your loan liabilities or investing in a phased manner to achieve life goals like child education/New House/Investments/Retirement Fund etc. . Why not start saving today with the howsoever small amount it may be. This beautiful proverb says it all: “Little drops of water make a mighty ocean”.
Nature teaches us a great lesson about the significance of small consistent efforts in our life but a steady stream of savings is required for achieving our life goals. Little by little, birds make beautiful nests and little by little small towns become big cities.
There is a need to evaluate your Balance Sheet at the end of each year. This will show whether you are on right track or not. The consistent increase in Net worth will pave way for making your life beautiful. There are only two ways to keep your net worth curve moving up: Firstly by increasing your Assets and secondly by decreasing your liabilities.
| Liabilities | Assets | ||
| Car Loan | 125000 | Bank Balance | 75000 |
| Credit Card | 50000 | PF | 60000 |
| Car | 150000 | ||
| Mutual Funds | 50000 | ||
| Net Worth | 160000 | ||
| Total | 335000 | Total | 335000 |
You will see in the above illustration that Mr. B has a net worth of 160000/- and he is well on way to becoming financially independent. An increase in net worth every year indicates the wealth you are creating for yourself and the family for the future. Time to think about long term goals after allocating enough amount towards an emergency fund. Here is a live example of how the principle of compounding works for your consitent savings/investments to pave for a beautiful future.
| Principal Value PV | Inflation Rate i | Time n | Future Value FV |
| 50000 | 6% | 30 years | FV=PV(1+6/100)n |
| 287175 |
Table (A) provides you the future value of Rs.50000/- after 30 years with 6% inflation.. You will agree that the value of money keeps decreasing every year. You can’t buy for Rs.100 the same stuff after one year which you are buying today. Similarly, the value of your salary/income will not be the same after 30 years. It will be decreased substantially. That means you need to earn more to keep pace with the rising prices after 30 years. Now please refer to the table below: You will find that your salary amount of 50000/- after 30 years at inflation rates of 6% will have to grow substantially and the calculation comes out to Rs. 287175. Does that mean you will have to earn Rs.287175/-pm after 30 years to live the same life which you are living today.> Agreed?
| Principal Value PV | Interest rate i | Tenure n | Maturity Value MV |
| 5000 | 10% | 30 Years | MV=PV(1+10/100)n |
| 1.14 cr |
For maintaining the same standard of living as you have been enjoying today, you need to earn Rs.287175 after 30 years but who will pay you this amount after your retirement. You will have to take care of yourself.
Friends,You need to accumulate huge funds which could generate a passive income of Rs.287175 per month, when you are retired and want to live a comfortable happy life. Table (B) as shown above will lead your way to achieve goals by investing wisely with consistent small savings. Average returns in stock markets range anywhere between 10 to 14 % annually and you can earn 10% on bonds/other safe investments also. Let us start investing Rs.5000/-PM expecting average return@10% being the lowest for 30 years You will be astonished to find the huge amount accumulated at the end of 30 years.
Just hold your breath and see the astonishing figures on your screen!!
Is it not interesting? You get an unbelievable amount of Rs.1.14cr on your retirement after 30 years. Is it not sufficient to provide you passive income of Rs.287175/- PM. This is how the compounding of savings works but you need to be consistent and prudent in choosing the right investment avenues.
Friends, I hope you liked my way of expressing financial freedom. I have not touched upon Emergency Fund or Mid Term Goals as these have been covered in my earlier blogs. Your feedback with critical comments is welcomed for making this blog worth gaining knowledge about Personal Finances
Happy Reading
MoneyXTension: Financial Freedom 