5 ways to achieve financial independence
You can't wave a magic wand and get financial security instantly. Even winning the lottery doesn't mean you will be financially independent for the rest of your life, regardless of people's beliefs. Instead, financial independence involves building regular passive income streams. Money should be flowing into your accounts without the need to do anything. You need to develop income-producing assets that generate positive cash flows for you. Let's look at some ways that will help you achieve financial independence.
1. Use the 4% rule
Before you stash the cash, determine how much you'll need to achieve financial independence. Some experts claim that you need at least $1.7 million to retire1. But there is no "magic number"—it depends on your lifestyle. You can start with "the 4% Rule."
At its core, the 4% rule is straightforward. It suggests that you withdraw 4% of your savings each year for your living expenses, allowing you to preserve the principal amount and live off the interest. For example, if you have $500,000 saved and withdraw 4% annually, that means you have $20,000 for your yearly expenses. If you've saved $2,000,000 and withdraw 4% annually, that means you have $80,000 for your annual living costs. It's that simple to grasp and apply.
Unless you're psychic, there's no surefire way of calculating your exact retirement expenses. Still, the 4% rule can help you "guesstimate" a ballpark figure of what you need to become financially independent. To figure out how much money you'll need to become financially independent, you'll need to do the following:
Part 1: Determine your annual total spending
To figure out your total spending, use a simple tool like PocketSmith, a free personal finance app that tracks your spending and helps you plan for the financial future. You can use PocketSmith to prepare for significant goals like homeownership, debt freedom, or early retirement and track your current spending on groceries, gas, rent/mortgage and other expenses. But it also includes a suite of tools to analyze and plan for your financial future, even allowing you to forecast up to 30 years. PocketSmith is a great app for handling your current expenses and forecasting what your retirement might cost.
Part 2: Multiply that number by your expected years of financial independence
Once you have a clear picture of your current lifestyle expenses, calculate how much money you’ll need in investments to withdraw 4% each year safely. It’s simple: subtract how long you plan to live minus the age you want to stop working (or become financially independent). So, if you expect to live to 95 years of age but want to become financially independent at 65, that means 30 years (95 – 55 = 30) of financial independence. To calculate the total amount, you’ll need to say “sayonara” to work and multiply your current annual living expenses by the number of years in financial independence.
Using simple math, you can figure out how much you’re spending and will likely need to save to become financially independent.
But this is also where it gets tricky. Anybody who wants to become financially independent must decide how to live their life now. You’ll have to save a significant percentage of your income to become financially independent. If early retirement is your goal, get comfortable saving up to 50% of your net income. Because how you spend and save now will determine when you can retire later. For example, retirement at 65 years of age:
| Life expectancy | 95 years |
|---|---|
| Age of financial independence | 65 years |
| Years of financial independence | 30 |
| Annual living expenses | $60,000/year |
| Projected total needed for financial independence | $60,000 X 30 years = $1,800,000 |
2. Aggressively invest
As we’ve discussed before, there are excellent reasons why you should start investing early. The earlier you start investing, the longer your money will compound and grow. Also, you’ll have time on your side, allowing you to take on a more aggressive investment portfolio and benefit from higher returns.
The bottom line? Start investing your money aggressively. It’s scary to think about the possibility of losing your hard-earned cash. Still, you will not reach financial independence by letting your money sit in a drawer somewhere (or even in a bank account offering a pitiful interest rate). In general, I'd recommend two methods: a robo-advisor and investing on your own.
Option 1: Robo-advisors
Robo-advisors are investment platforms that use a ton of data to build a portfolio for you and help your money grow without you having to do much work. How does robo-investing work? First, the robo-advisor puts money into a broadly diversified mix of ETFs. From there, rebalance your portfolio as necessary and ensure you get the most out of your money through automated investing.
Our top recommendation, WealthSimple, stands out for its personalized approach to investing. All it takes is a brief questionnaire to gauge your risk tolerance, and WealthSimple will propose a portfolio tailored to your needs. Once you're on board, WealthSimple takes care of the rest, making investing a breeze.
Option 2: Online brokerage
If you prefer to pick investments independently, that’s fine, too, as long as you know what you’re doing. The first thing you will need to do is choose one of the best discount brokerages in Canada. Questrade is our top choice because of its ultra-low fees (free ETF purchases!) and intuitive trading platform. Read our full Questrade review to discover why we love this discount brokerage.
If you have less than $100,000, consider investing in ETFs. ETFs trade like stocks, but they are a basket of other stocks. The beauty here is that you become instantly diversified.
Once you cross that $100,000 mark, you could start investing in individual stocks while still staying diversified. This means you should have at least ten different stocks in different industries to balance your risk.
3. Pick an “FI” lifestyle
“FI” stands for “financially independent.” But you’ll also hear the phrase “FIRE,” which means “financially independent, retire early.” That being said, there are two schools of thought regarding achieving “FIRE.” Both methodologies/lifestyles have the same end goal – to reach financial independence. But they vary in how you spend, save and live your life. I’ll highlight both below so you can determine which (if either) suits you.
Option 1: leanFIRE
leanFIRE is a lifestyle that requires you to spend very little monthly money. For example, many people in the leanFIRE community will recommend spending less than $3,000 monthly.
Yes, it’s almost like living like you were in college. If you want to follow a strict leanFIRE lifestyle, you’ll need to be super frugal and change your perspective on what you need and want.
You may also have to forego things that can sink your savings, such as a car or a “McMansion” in a prime locale. Some strict on the leanFIRE lifestyle use it to determine where they live. For example, you’ll spend much less living in Guelph, Ontario, than in Toronto or Vancouver.
Option 2: fatFIRE
Alternatively, you can choose to live with a little more luxury with a “fatFIRE” lifestyle. This methodology aims to let you have some beautiful things while also achieving financial independence. The biggest downside is that it’ll take longer to achieve financial independence with this style.
To follow fatFIRE, your spending should be close to national averages. For example, the average cost of living in Toronto2 for a family of four is around $5,593.10 a month, and the average price of a medium-sized apartment is about $3,216 a month. So, if you plan on living in “the 6ix,” target your annual spending at $105,708 per year, including housing.
Either way, to reach FI faster, you’ll need to spend less and make more money every way you can – which is the next step in achieving financial independence.
Either way, to reach FI faster, you’ll need to spend less but also make more money every way that you can – which is the next step in achieving financial independence.
4. Make more money
If you’re a financial analyst in Canada making an starting salary average of $70,000 (according to Talent3), you sure as heck can’t spend the “average” of $105,708 per year. The reality is, that you need to earn more money to get to financial independence faster (or at all).
By making more money, you’ll be able to boost your savings percentage and reach “FI” much sooner. The easy way to make more money is to earn a higher salary. But if earning a higher salary were that easy, we wouldn’t be writing this article. That’s why you should look into getting a side hustle.
There’s a fast way to start generating ideas for a side hustle, taken from author Chris Guillebeau, who wrote the book Side Hustle. He says an idea must be feasible, profitable and persuasive to become a viable side hustle. He says that idea is feasible if it:
- Motivates you
- Can earn you money
- Can be accomplished in a short amount of time
To determine if your idea is profitable, he says to explain the merits of your proposal to potential clients in just two sentences. They probably won't pay clients soon if you can't do that.
Finally, an idea is persuasive if you can convince people to pay more because you do something better or different. For instance, Guillebeau uses the example of someone who went from drawing caricatures for $100 an hour to earning $250 an hour by leveraging digital drawing technology—something her customers hadn't seen before and thus were willing to pay more for the "wow" factor.
While it may not answer all your questions about which side hustle is best for you, Chris Guillebeau's book provides a wealth of valuable content and ideas that can give you a head start. I highly recommend picking up a copy to explore these insights.
5. FIRE saving strategy
If achieving FIRE is your top priority, consider cutting unnecessary costs to the bone. This means avoiding monthly services you don’t need (i.e. gym memberships and streaming accounts you don’t use) and cutting back on everything else you possibly can. It also means limiting the new things you buy. That might mean taking public transportation instead of buying a new car. Or if you buy a new car, buy a cheap used one instead of a new car.
Overall, the goal here is to cut back everywhere you possibly can. A smart thing to do would be to create a budget using a dollar-based system (meaning you assign dollars to specific categories and only budget money you have) like You Need A Budget. This handy app tracks your cash flow, with new YNAB users saving on average $600 by the second month and more than $6,000 in their first year. I’ve personally used YNAB for years, and it’s completely changed the way I think about money.
Another option? Use KOHO – a free pre-paid, reloadable card and integrated app that gives real-time insights into your daily spending. It’s all the rage these days: this no-fee card functions like a chequing account with the benefits of a credit card, even giving you cash back on all your purchases. But unlike a credit card, you’re tapping into cash and not racking up credit card debt. So that means you’ll likely be more mindful of your spending and save more money. The average KOHO user saves roughly 7% of whatever money they load into their account. Earn 1% cash back on groceries and transportation. Earn up to 5% extra cashback when shopping with partnered merchants. Plus, earn up to 2.00% interest on the entire KOHO account balance without any minimum deposit requirement.
Bottom line: Yes, you can!
To recap, there are five main steps to reaching financial independence. The first is to apply the 4% rule: estimate how much you’ll need to achieve financial freedom. Once you’ve got your number, start investing aggressively. Your best bet is to set up automated deposits with a robo-advisor like WealthSimple or an online brokerage like Questrade. With those boxes ticked, move on to choosing an “FI” lifestyle (if that suits you), cutting costs, and boosting your monthly income. If you do all these five things, you’ll be well on your way to achieving financial freedom.
You might be unable to do everything on this list – and that’s okay. The reality is that you never know what tomorrow will bring. Just do what you can with what you have. I’m not suggesting you go out and blow your money, but plan for the unexpected. For example, my father-in-law lived “leanFIRE” his whole life but then got cancer in his mid-60s. This caused massive disruption to his finances for many reasons.
The bottom line? Don’t make yourself miserable now just to retire early. Find balance, be realistic and do what works for you.
