What’s the difference between being financially free and being financially independent? What do these terms really mean?

Many people use them without fully understanding what they mean or how to get there.

In this blog post, I’ll go through the five steps to reach financial freedom – and even generational wealth.

Level 1: Debt-free

First and foremost, you need to get rid of all your expensive debt. This could be consumer debt, quick loans, and overdrafts on your credit cards.

It doesn’t make sense to start investing if there’s a hole in your bank account where money is pouring out.

The rule of thumb is that you can start investing if you expect the return on your investment to be higher than the rate on your loan.

If you pay 15 percent on your loan and expect to get a return of 8 percent on your investments, you’re setting yourself up to lose money. You pay more for your loan than you gain on the investments.

In reality, it’s hard for beginners to get a consistent rate of return that’s higher than 10-15 percent a year, so any loan with an interest above 10 should be paid off as soon as possible. This should be your first priority.

But if you have a mortgage of one or two percent, it’s a no-brainer to keep that loan and start investing, as it’s not too difficult to earn more than that in the stock market.

Level 2: Financial security

To reach level 2, you need to build enough cash savings to cover any unforeseen expenses like car repairs, a new fridge, or sudden medical bills.

You should have about a month’s salary in a separate account for these kinds of unforeseen events so you don’t stress out about money on top of having to deal with some kind of misfortune.

Knowing that you have the money for any sudden mishaps creates a sense of calm in your mind – and you really need that if anything happens.

Level 3: Financial Self-Reliance

To reach level 3, you need enough cash savings to be able to quit your job at any time.

This should be about six months’ salary, preferably in a separate account.

Having this will create a feeling of freedom and having the luxury to choose. When you get up in the morning, you go to work because you choose to, not because you have to.

Level 4: Financial Independence

To reach level 4, you need to invest and be able to cover basic expenses like food and housing with the return on your investments.

How much do you need?

It depends on both your expenses and the return you expect to make on your investments.

Here’s my method. It assumes that you get a minimum return of 15 percent:

• You add up your monthly expenses.
• You multiply that by 12 to get a year’s worth of expenses.
• Then you take the yearly amount and divide it by 0.08.
• That’s the amount of money you need to have invested with a minimum return of 15 percent.

A little note here: Not everyone can expect to make 15 percent consistently in the stock market. It requires a method, and for me, value investing has worked well. You can read more about how I invest in my e-book by clicking here.

If your basic expenses add up to $2,000 per month, you need $300,000 invested at 15 percent.

Knowing that you’ll never have to let your kids go hungry or leave your home creates a feeling of security.

But be aware: at level four there is no room for luxuries like parties and vacations.

Level four is meant as an alternative to unemployment benefits.

If you want to include fun and luxuries, you need to get to the next level…

Level 5: Financial Freedom

To reach level 5 you need to create a consistent return that can cover a completely ordinary life with all the normal luxuries like ski trips, birthday parties, and living upgrades.

How much money do you need to live well and have fun?

It’s the same method as above – you just add all the fun and parties to your expenses and divide the total by 0.08.

Why divide by 8 percent if you expect to make 15 percent annually? Because you want to save room for taxes and have a margin of error.

What if you don’t expect to make a consistent 15 percent return on your investments?

What if you invest in index ETFs and expect around 8 percent annual return on average?

Easy-peasy.

You do the same as before, add up your monthly expenses, multiply by 12 to find yearly expenses, and instead of dividing by 0.08, you divide by 0.04.

What do you do when you reach this level?

You can either stop and decide to live comfortably for the rest of your life.

Or you can also choose to advance to the next level…

Level 6: Generational Wealth

At this last level, you have more than you can spend, and you can influence the world by giving to charity.

Did you know that Warren Buffett has donated more than $37 billion to charity? Imagine how much you can change the world with $37 billion.

The family behind the Danish shipping firm Maersk created a fund that donates money every year to things like helicopter landing sites and new football fields. Their most important donation was the Copenhagen Opera House, which was the most expensive opera house in the world at the time of construction.

When you reach this level, you’ll be able to impact the world long after you die.

If you were to set up a fund that donated money, what causes would you want to support?

To learn more about investing, read my e-book. You can download it here.

There are a lot of blogs and well-intentioned advice about saving, but very little information about how to spend your money. 

How many times have you read or heard that you should avoid buying cafe lattes and invest the money instead?

But what if going to a cafe is one of the highlights of your day?

Why not talk about how to get the most enjoyment and happiness out of your income?

Isn’t that what it’s all about? 

Why save and live frugally for decades in order to one day be able to afford the things you desire? 

 Why postpone the good life?

Here are five ways to get more happiness out of the money that you have right now. 

1. Buy Experiences Instead of Things

Experiences can create far more happiness than material things. 

Let me explain by comparing two different kinds of purchases in my own life. 

I went to an amusement park called Tivoli Gardens with my boys. I took them individually, so I could give each of them a lot of attention and avoid the interest conflicts of a four-year-old and a seven-year-old. I actually did it twice with each kid. That’s four days in a fun park.  

Compare that to the many presents they get around Christmas. They got what they wanted, for example:

• An electric keyboard – only used three times 
• A guitar – used even less 
• Plastic action figures – only played with for half an hour

The Christmas presents have become a nuisance that takes up space and collects dust in our apartment. It’s a reminder of money wasted. 

However, the trips to the fun park remain in our memory, like an Island lit up in the night (I wrote this during a lockdown). 

We often talk about it while tucking in at night. 

We’ll go through all the rides, the lollipops, the cotton candy, the apples dipped in caramel. 

We talk about being afraid and being brave.

We talk about being scared of the bumper cars, but being brave and taking a ride when no one else was on the track (it was a rainy weekday during the pandemic). Gradually driving faster and bumping into the walls and staying in the car when other people got into other cars and bumping into them too and feeling very brave. 

 We talk about how it tickles when you ride a roller coaster. We talk about how beautiful the city looks from the ferris wheel when the lights are turned on. 

We relive those days again and again. 

When you buy experiences like a day trip, a vacation or even just an evening in a restaurant, you strengthen bonds and gain an experience that can change who you are. 

Plastic figurines can’t do that. 

2. Purchase Knowledge

I never try to save money on books, newspapers, or education. 

Knowledge creates a rich inner life. 

 As long as something exciting and enriching is taking place within you, you can manage getting through lockdowns and pandemics. 

The pandemic might pass, but don’t fool yourself.  There will be other times in life when you’ll be required to rely on your own company for various reasons.

 Maybe you get stuck in an airport. Maybe you break a leg or get hospitalized. 

3. Buy Presents for Others

The other day, I received a package. 

It contained candy, chocolate, stickers, a Donald Duck magazine, and a PJ Masks sticker book. 

I was very touched (tears were involved) and the boys were truly ecstatic. 

 When the magazine had been read, the stickers stuck and the candy eaten, we began planning what to send in return.

My kids handpicked the candy and the gifts (colored markers, a coloring book, and the alphabet in stickers). 

They made drawings, figures of beads and modeling clay. They helped me write a letter and put dinosaur stickers on it. 

We were excited as we waited for the package to arrive, and we had to restrain ourselves from calling them every five minutes. 

Days later, I asked my seven-year-old what he liked better. To receive a package or to send a package? 

“To send one,” he said.

That’s how it is. 

 It creates tremendous joy knowing that you’re surprising someone and making their day better – especially if you put some effort into it. 

 When you give, don’t expect anything in return. 

 If you expect something in return, it’s not a gift, but a trade, and that’s different. 

 Give with pure intentions of spreading joy. 

4. Spoil Yourself

 If you love the trip to the coffee shop to get your cafe latte, don’t let some grumpy financial planner talk you into making your coffee at home. 

Buy it and enjoy it. Tell them to mind their own business. 

I’m alone with my boys, and over the course of a weekend, I’m pretty busy cooking and tidying up. 

So, I have an agreement with myself that Monday morning, when the kids are dropped off, it’s my turn. I go to a local cafe and I order breakfast and coffee. 

Then it’s my turn to have someone serve me something and clean the table after me, and honestly… I love it. 

I can look forward to that the whole weekend. It’s my reward.

I’ll sit all alone and read the newspaper or a book, while others wait on me – and no, making the coffee at home doesn’t do it. There’d be some laundry waiting, and it would feel different. 

Whatever you love, buy it and enjoy it.

A little trick might be to plan your pampering for after you complete a task that was a little difficult.

Then it’s waiting for you at the end of your task like a carrot in front of a donkey. 

5. Pay Upfront

Always pay up front (or as quickly as possible).

 There is something about paying before you get the service or product – or just after you receive it – and avoiding credit card payments or installment payments. 

 You pay while the excitement is there, and you look forward knowing that you earned it. 

 If you pay afterward, you don’t really enjoy it that much, because first of all, it’s not really yours yet, and by the time you’ve paid it, the excitement is gone.

 For example, if you pay for a phone in installments, you risk paying off the phone after the screen breaks or the phone gets stolen, and there’ll be some bitterness attached to the payments that seems to go on forever. 

 Besides, it’ll cost you more with installments. Do the math.

 By the way, if you do have some recurring payments, like rent or school tuition, remember to set up an automatic payment so you don’t have to spend time on it and don’t risk missing a payment and getting reminders and fees. 

Balance Between Consumption And Savings

Of course, you can’t just consume without being mindful about it. 

There should be a certain balance between your income and expenses.

Your income should always exceed your expenses, and you should invest the difference. Try to save at least 10 percent of your income. If you can save more, that’s great, but without starving yourself financially. 

If you can purchase what you enjoy, where should you cut down?

I’d look at cutting where it hurts the least. 

Like going through the boring stuff like your insurances and make sure you aren’t double insured. 

You can read one of my blog posts about saving money here, but before you do that, go get that latte. 

Don’t forget to that e-book about making your money grow. You can get it here.