0. You Earn Less than you Spend
This is obviously a good place to avoid and represents the least amount of freedom. No one should be here, but I added it because I know many people (particularly in the US) operate regularly in this stage.
1. Your Job Covers Your Expenses
This is where a lot of people are. You spend everything you make. At this stage, losing your job is a terrifying prospect because you are only a week or two away from being back in stage 0. A few more weeks, (depending on how long you can string out your credit cards) and you’d be looking at bankruptcy. At this stage, changing jobs is very risky because, if it doesn’t work out, you have very little cushion to let you find another job.
2. Your Job Covers Your Expenses and Savings
Once your expenses are lower than what you are making, you can start setting money aside. Many people never make it to this stage because when their income goes up, so do their expenses. Keep in mind that you can get to this stage simply by spending less money. If you are in stage 1, you can often get here by cutting out (or reducing) entertainment expenses, eating out and other non-essential expenses.
3. Your Savings Allow You to Take Risks in Your Job
When you have bit of an emergency fund built up, you can take risks in your career that simply aren’t an option when you are living paycheck to paycheck. Sometimes this means switching to another job. Sometimes it means getting behind something that is risky, but will really make you look good if it is successful. Sometimes it means taking an ethical stand that might involve losing your job.
The point is that, until you have some savings built up that would allow you to go without a job for at least a few months, your decisions are all going to be driven by a fear of losing your job. Once you have this cushion, you can start making decisions that are best for your career and family instead of just your immediate cashflow needs.
4. Your Savings Allow You to Quit Your Job and Start Your Own Business
This is a big jump. It requires a shift from depending on someone else for your finances to being responsible for producing your income on your own. This isn’t something that is very easy to do unless you have some significant financial reserves built up. Obviously, this doesn’t necessarily happen all at once. Many people start their own business while still working for someone else. Still, the decision to stop working for another employer and take all of that responsibility on yourself is a big step.
5. Your Business Covers Your Expenses
At this stage, your business gives you a sustainable income. In many ways, this is like being back at stage one, but now you are responsible for everything instead of being dependent on someone else.
6. Your Business Covers Your Expenses and Savings
Similar to stage 2, this is where you are able to keep your expenses down, while earning enough to save.
7. Your Savings Allow You to Take Risks in Your Business
Once you have some savings built up for your business, you can take risks that simply aren’t practical at the lower stages. These risks might included expanding your services or products, experimenting with marketing, launching new businesses, or bringing on more employees to help scale up.
8. Your Savings Allow You to Sell Your Business
At this point, you have saved enough that you don’t have to keep running your business. Maybe you don’t sell the business, but instead hire someone to handle the day to day decisions for you. This is the stage where you really step out of working (in the traditional sense) on a daily basis.
9. Your Investments Cover Your Expenses
Investments may include stocks and bonds, but also may include businesses that don’t require you to work on them every day.
10. Your Investments Cover Your Expenses and Savings
At this stage, you make more than you spend without requiring day to day involvement in your investments.
(This article often is searched for as 10 Steps of Financial Independence & 10 Levels of Financial Independence)
WOW…..the cycle of money :) Well written! :) I am most probably in the level where I earn enough to cover my business expenses….
long way to go :)
Arjun Muralidharan (TheProductiveStudent.com) says
I think this is a great scale for a single reason: Most people hover around stage 2 or 3, which puts things into great perspective. Most Fotrune 500 CEOs are at 10.
I think even more interesting is that if you were to go from 1 to 10 step by step, you’re doing it the “hard way”. Which in part explains why people are so obsesses with getting promotions at work, which creates this illusion that you can jump directly over steps 4-8.
Thank you so much … it helped me a lot to think much more in terms of savings
Adam Martin says
Very simple way to put it. I like it.
Great list. Very simple and well developed.
I wouldn’t say that you have to own your own business to get to level 10 of financial freedom. I’m sure most people would love to be their own boss, but how realistic is that? Our economy depends on people that work for others. Could your business expand without people working under you? Most likely not.
This list makes it seem like anyone that is an employee can never reach true financial independence. What if they make enough money to invest, and then no longer have to work a day-to-day job? Not everyone can own a business, but I think everyone can achieve financial freedom.
Mark Shead says
Very few employees are going to earn enough that they can just stop working before they reach retirement age. So most people won’t attain that level of financial freedom. Now I do believe that most people can get to a point where they can retire, cut their expenses and live satisfied for the rest of their lives, but that wasn’t really what I meant by financial freedom. I don’t consider being dependent on an employer to be freedom.
I understand your point, but no matter which way you go about working toward financial freedom, you will always be dependent on something. If you are an employee you are dependent on your employer; if you own a business you can be dependent on your employees, or the economy; if you invest than you are definitely dependent the market. While you may have a lot more control over your decisions by being an employer rather than an employee, you will always be dependent on something.
Wealth isn’t created in a vacuum. So, in that sense, if we are defining financial freedom as “being dependent only on oneself rather than external factors,” I don’t know if anyone really can be. At least with contemporary methods.
I’m playing a little devil’s advocate here. I do see your point.
Also, do you consider retirement age the border between financial freedom or servitude? The retirement age is just an arbitrary line we drew for tax purposes. Would you consider it necessary to retire “early” in order to be financially free?
I like this because it makes the idea of saving for retirement less like a distant burden and more an immediately desirable goal. I know when i have money in the bank i will happily flirt with fines if the probability is low, will speak more candidly at work, and generally take more risks, simply because the huge costs of poverty are far less likely.
My only qualm is steps 4-8. Surely becoming an investment banker for 20 years without upping your expenses works just as well as someone that starts their own business. Using that (substantial) money to invest in high risk stocks would have an expected payout and risk similar to starting your own business. I’m not putting down starting a business, but there are other ways to make money.
Mark Shead says
There are definitely other ways to make money–including getting a huge inheritance. So you are correct. This is just one plan, but probably the one that is within reach for the largest number of people.
Saurabh Chavda says
Very very interesting article, very simple but to the point, people like me are simply forgetting this simple formula and keep crying about their finances. Luckiely I am stage 4 right now, I might be at stage 6 if I have got this useful simple but very effective article earlier. Thanks and God bless you.
SallyBeam | SelfHelpFriend .com says
Wow..Simple & True Level for financial freedom.
Add up more on “Pay Yourself First”. I’ve heard and understand this term better from “Automatic Millionaire” Book.