Building the right financial foundation, just like building the right foundation for a house, withstands the test of time. Everything becomes easier, too.
Having the right financial foundation is important if you are to build a positive cashflow and ultimately achieve financial freedom. This hit me the other day, after getting back from my 10-day vacation.
It was three mini-vacations rolled into one. For the first four days, I went to Las Vegas with a friend. Then the next 4 days, I visited more friends in Southern California. The highlight of the trip was a One Day M School at the BMW Performance School in Thermal, CA.
All told, I spent around $3000 in course fees, food, lodging, airfare, car rental, and gas over those 10 days. If I had done this just several years ago, I would be beating myself up, angry that I have to spend the next few months, working just paying off my vacation.
In the process, I would engage in self-destructive thinking. That thinking was believing that vacationing is a waste of money. And in thinking this, I would be less apt to take vacations in the future, the very thing I needed for unwinding and de-stressing.
I would also be depriving myself of new experiences which are synergistic with other areas of my life.
Having the right financial foundation helped put things into a different perspective. As you know, I’m a fan of Personal Capital, using the app to keep track of my net worth. I check my net worth almost every day, in part because I treat money like a game. The points in the “game” are my net worth, and if I can get more points (i.e., increase in net worth), then this means I am doing well.
But I had done something to screw up the app and needed the password to log back in. The password was at home, so this meant waiting until the end of my 10-day vacation before I could check my net worth.
When I checked my net worth some ten days later, I was in for a pleasant surprise. I netted close to $3000 in investments alone! This means that in the 10 days I was on vacation, my passive revenue stream grew by $6000. This includes the paycheck I collected, along with the compounding interest from my retirement and investment accounts.
What a great feeling to know that my vacation was in essence already paid off. If I had felt guilty about taking time off in the past, I am less likely to now. This is because I had build the right financial foundation for success.
If you build your financial foundation right, then everything down the line becomes so much easier. You’ll be making money without having to put in any extra work.
What’s the Right Financial Foundation?
Laying the right foundation in place is easier than you think. Here are the things you should have if you’re to build wealth, leading to your financial freedom day.
Have a “Go to Hell” or “Fuck You” Fund
Chances are you’re in the 70-percentile of Americans who have less than $500 in emergency funds saved up. This means you can’t just tell your boss to go to hell and quit your job. Or worse yet, if you get fired you’re suddenly in a lurch, with a whole world of financial stress.
I know what it’s like. I used to be that guy. I felt helpless, at the mercy and whim of someone else. And the sad thing is I was right. I can’t control what other people do.
My company goes through regular rounds of layoffs every year. These often happen without warning and with no rhyme or reason. In fact, I developed chronic pain in my right shoulder from “carrying all that weight on my shoulders”.
This shoulder pain would go away after close to a year of buttoning down the hatches and just saving. At the end of that year, I looked at my bank account and got a pleasant surprise. I had enough Go to Hell money saved up for a year and a half should I lose my job.
This was a liberating feeling. My shoulder would gradually stop hurting.
I encourage you to get into the habit of saving so that you can build up a cash reserve. Ideally, your cash reserve should sustain you through the months it takes you to find a new job. What amount that is depends on your expenses and your comfort level. This is one of the pillars of financial foundation.
For some people, only several months’ worth of savings is enough. For older people in the workforce, a year or more is recommended because of the hidden realities of age discrimination. Also, they likely have a family to support, so having more money in the bank is always better than having less money.
Time and experience are your best teachers. For example, if you tend to keep jobs for a long time, chances are your skillsets along with your interviewing acumen, will be on the low side. You’ll need more time to study and refresh those skills. You might even need to take a class or two to freshen up on your skillsets.
That means you’ll want a large cash reserve, simply because it will take you a bit longer to find a job.
Invest Up to 20% of Your Income
How would you like to make money while doing nothing? That’s in essence what investments are. Through the power of compounding interest, your money grows exponentially. That’s how I was able to appreciate $6000 in net worth during my vacation.
Investing up to 20% of your income is another pillar of your financial foundation
Saving is hard, especially when we’ve all been in the reactive or automatic mode of spending. Some people spend money as fast as they get it. Others are so cheap, they squeak (I was in the latter group). Yet, both groups are just as bad.
For instance, while you may have lots of money saved up in the bank you likely have crippling fears around investing and spending, as I did. In fact, it took me ten long years to break out of these fears to finally invest my money.
That’s ten years’ worth of compounding interest I lost. If I had invested even $10,000 over those ten years, my investment will be worth $19,672 today, assuming a 7% return on investment. That’s significantly more than any bank would pay out.
Saving is hard because most everyone employ Parkinson’s Principle: Your amount of spending will rise in proportion to your level of income. You can be a doctor who makes $200,000 a year and still end up with a net worth of -$10,000. Read: That’s negative ten thousand dollars. This is a true story. I learned this from an instructor in an retirement planning class, who had this very student.
In other words, most people live from paycheck to paycheck.
The easiest way to save money is to put it aside, long before it hits your paycheck. If your employer offers a 401(k) retirement account, invest up to what your employer contributes. Or, you’re just walking away from free money.
Even if your employer doesn’t offer matching contributions, still set aside a percentage every month. That percent depends on your retirement goals. Speak with the financial adviser who would be able to help you determine how to reach your financial goals.
On top of saving for retirement, consider saving for the time before retirement. For example, you might want a non-retirement, investment account (normal investment account). That way, you can start withdrawing money without having to wait until your retirement years. In essence, you can retire earlier rather than wait until the mandatory age limit for withdrawing from your 401 (k).
Set up these accounts so that money is automatically transferred from your bank account periodically. I set up mine to coincide with my pay day so that it seems like a fixed amount is automatically deducted from my paycheck. That way, I can’t spend what I do not have.
Which One First? Go to Hell Fund or Investment Accounts?
Which one you want to build up first depends on your situation. If it seems like you might be laid off soon, then it’s best to build up your Go to Hell Fund fast. Of course, if your employer is still offering a 401(k), then you should still be putting money into that. Or, you’re just walking away from free money.
On the other hand, if you work is stable and secure (e.g., a government job), then you can get to work pouring money into your investment accounts without worrying too much about your Go to Hell Fund. Of course, you can also build up both funds in parallel.
Keeping Track
Life is full of unexpected surprises. Just because you’re saving a hundred dollars more every pay check to put into your Go to Hell Fund doesn’t mean it will be there. There could be an unexpected medical emergency or a needed car repair. Or your spouse could be spending that money without your knowledge.
Once your financial foundation is in place, you have to start building on top of it; otherwise, what was the point of all that work?
So, it’s important to track your progress. I’m a fan of Personal Capital, which provides a free tool to aggregate all your accounts, providing a snapshot of your overall net worth. You can also see the balances in each account you add to Personal Capital.
Of course, Personal Capital wants your business by providing you a free tool. If you have over $100,000 in personal assets, then they will want to work with you to manage and invest your assets.
On the flip side, if you’re disciplined about saving a hundred dollars every month, you’ll also want to know when you have enough in your Go to Hell Fund. That way, you can invest the surplus and put this money into other places, like a high-yield savings account. Keeping track with a tool like Personal Capital helps you know when you get there.
Free Your Money Energy
All that saving and investing can seem like a chore, especially when spaced out over decades of your life. We have to maintain discipline and watch every dollar. If we’re not careful, we can develop a harmful mindset of thinking that any spending is detrimental.
That was the case with me. I became so obsessed with saving every dollar that spending any money was hard for me. I would grouse about having to pay an extra $10 for groceries, compared to last week. If the price of a pint of yogurt went up 20 cents, I would notice right away. I was watching prices, in disbelief that the price of a carton of eggs went up 30 cents or the price of a gallon of gas up by 10 cents, especially as politicians and voters kept approving more taxes and bonds.
But I was also playing the money script my father taught me. It wasn’t uncommon for him to drive past a gas station and grouse about the price of a gallon of gas going up another five cents.
Over time, I realized I wasn’t growing but contracting. Sure, I was building wealth. But I was making myself miserable. This is the biggest takeaway I want you to have about money. While it’s good to build up wealth and become financially free, what’s money really about?
Money is there to serve you. It is there to enable you to live comfortably. Money is there to help you enjoy life and, most of all, be happy.
Here are two strategies to help your free your block around spending money.
Have a Fun Fund
The third pillar to build up for your financial foundation is setting aside 10% of your paycheck every month to put towards a Fun Fund. This is money you spend on nothing but fun. The purpose of this money is to pamper yourself. More importantly, you’re giving yourself permission to relax, be kind, and be gentle on yourself.
What you’re doing is hard. Otherwise, we wouldn’t have 70% of Americans who are living from paycheck to paycheck. So, it’s important to step back occasionally and regain your perspective.
Spend this money on anything you want. You can make it a rule to spend all of the money in your Fun Fund every month or even every three months for a super, good time.
Treat yourself to a nice meal every weekend. Head to your favorite weekend destination and pamper yourself at the spa. Get regular massages. Watch a movie. Hang out with friends. Take a class. Get into a hobby and buy what’s necessary in support of that hobby to support your spiritual growth.
You’ll also be keeping cognitive decline at bay the more you engage your mind. Too many people work to live. They don’t really enjoy what they are doing at work. So, what’s the first thing they do when they get home? Rot in front of the television set. Do this for the next 30 or 40 years in front of the idiot tube and most people have a mind to match the box. Rather, get engaged with life so that even if you’re not feeling productive and fulfilled with your job, you can be in your hobbies and recreational events.
Write. Travel. Learn to play a musical instrument. Volunteer in your local community.
Doing this helps you to see that money is circuitous in nature. It is always in circulation. It is there to help serve you and enable you to live comfortably. Most of all, you will learn how to be happy.
Donate
Donating is yet another pillar of your financial foundation. I’m a fan of giving, even just a little every month, because through giving we are freeing our barriers around money. It may sound selfish to say that we don’t really give to help others more than we give to help ourselves. Most of us give because we like how we feel about ourselves as a result. Giving helps us to realize that money circulates and always comes back to us, much like the $3000 did for me.
If you’re having troubles letting go of money to the point that spending even a little makes you miserable, then consider giving. One of the simplest ways to give is to buy a cup of coffee for the person behind you at your favorite coffee shop. You can do this anonymously or make yourself known. Personally, I like to tell the barista to put in an extra $5 for whomever walks through the door next. Then, I sit off to the side and watch that person’s reaction. Their joy and gratitude just make my day.
Doing this, too, helps me to see that money is a renewable resource. After all, how would you feel if you spent 40 years of your life scrimping and saving just to one day find yourself with several million dollars in investments. But you’re not able to spend a cent of it and enjoy your retirement because you’ve developed a miser’s mindset for those 40 years? What good is money then? It’s not helping you, and it’s not helping anyone else. Ever heard of people who talk about a vacation they wanted to take or something they wanted to do take their entire lives? Only thing is they never do it, complaining about how they don’t have the money. Then they die and their friends and relatives find out the person has way more money than they ever thought possible, given how much that person was complaining. That’s how this happens. Don’t be that person!
Conclusion
As you can see, building the right financial foundation is important if you are to create passive income with ease.
Just the statement, “Save up your Go to Hell Money” can be enough to stop most people. After all, they use the Parkinson Principle when it comes to spending money.
To save means to develop a whole new of habits. Rather than go to the coffee shop every morning, where you spend $10 on coffee and pastry, you now have to find something else to replace this activity. This could also mean saying goodbye to friends at the coffee shop that you see every day.
When you want to change a habit, you have to develop a new habit and replace the old one. After all, Nature abhors a vacuum. You can still go to the coffee shop to spend time with your friends but how about bringing your own coffee in a thermos bottle? Or just go less often? Remember that money is also there to help you live life comfortably. Personally, I abhor the advice of giving up your coffee habit altogether because it costs you $300 more a year. If you’re not able to generate an additional $300, either through your investments, your job, or even a business, then it’s not a time to feel guilty about your coffee habit and cut it out altogether. Rather, it’s time to take action and ask yourself how you can better your life.
If you find yourself faltering, thinking that saving and investing isn’t worth the pain, then ask yourself how you will feel when your next vacation would have paid for itself with just a little work?
And that, my friend, is a wonderful feeling.