10 Levels of Financial Independence And Early Retirement | How to Retire Early

10 Levels of Financial Independence And Early Retirement | How to Retire Early
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    Long-term financial goals can sometimes seem so big that they feel almost unattainable
    especially when we're just getting started on our road to financial independence.
    I and many others like me in the financially independent, retired early community have
    found it helpful to break down the goal of becoming financially independent into smaller
    and more manageable levels of financial independence.
    Not only because it makes it easier for us to track our progress, which in turns helps
    us to stay motivated throughout the process, but also because it helps us get over that
    initial hurdle of starting to chip away at this mountain of a task.
    In today's video, I'm going to take you through what I consider to be the 10 levels
    of financial independence as well as give an example on how to go from the first level
    to the top level in your lifetime.
    Hey everyone Daniel here and welcome to Next Level Life a channel where you can learn about
    Investing, debt, retirement, and many other general financial education videos because
    the school's aren't going to do it for us.
    So if any of those topics sound interesting to you or if you want to learn how to better
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    letting me know what topics you'd like me to cover in future videos.
    Now obviously these ideas of the levels of financial independence are not solely my own
    nor are they very new as there are many articles and blog posts that have covered this topic
    already and have done so for many years.
    So consider this more of a summary of many of the ideas expressed in those articles and
    if you want to learn more about the topic feel free to check out some of the articles
    for yourself.
    I've left some links in the description.
    With that out of the way, let's get started.
    Okay so real quick the 10 levels of financial Independence are Level 0 Financial dependence,
    level 1 Financial solvency, level 2 Financial stability, level 3 debt Freedom, level four
    coasting Financial Independence (also sometimes known as freedom from employer), level 5 Financial
    Security, level six Financial flexibility, level 7 Financial independence, level eight
    Financial Freedom, and finally level 9 Financial abundance.
    The levels are usually defined as something like the following:
    Level 0 - Financial dependency is when your debt payments and other living expenses are
    greater than your own income.
    This means that you are in one way or another dependent on someone or something else to
    help you pay for your bills or if you happen to be a kid and don't actually have any bills
    you need someone else, usually your parents, to pay to put food on the table and keep the
    lights on and have a roof over your head.
    This is the level that all of us start out on and it is referred to as level 0 because
    as a financial dependent you obviously have no Financial Independence.
    Level 1 - Financial solvency is when you are current on all your debt payments and you
    can meet your financial commitments and your other living expenses without any outside
    Level 2 - Financial stability is usually defined as when you have built some sort of emergency
    fund in addition to being financially solvent.
    Level 3 - Is again debt freedom and it's defined differently depending on who you ask.
    For some, it is being completely debt-free, mortgage and everything.
    For others, it's being just free of the high-interest debts like credit cards but you still might
    have a mortgage or other debts like student loans.
    And for some others, it is paying off all of your debts except for the mortgage but
    your credit cards and student loans or car loans all that stuff is all paid off.
    Level 4 - Coasting Financial Independence also sometimes known as freedom from the employer,
    Barista Financial Independence, or Agency in blogs and other mediums.
    I personally like the idea of it being coasting Financial Independence so that's what I'm
    going to be using in this video but know that some people refer to it by one of those other
    titles but the idea is the same.
    You have reached the level of coasting Financial Independence when you could, if you wanted
    to, step down from a job that may be higher-paying but may also be either less satisfying or
    more stressful or both into a new job that is lower paying but more enjoyable or less
    stressful or both.
    This is because in the early years of your career or just thought most recent years you
    have managed to save a very decent sum of money that would be able to provide for the
    later years of your retirement after it has grown even if you don't put much more in.
    Therefore all you need to do is make enough money to get you to age 60 or 65 or 70 or
    whatever your numbers work out to be when that amount of money you've already invested
    will be able to fund your lifestyle because it's been given enough time to grow.
    So in a sense, you've worked really really hard and been very frugal in the first few
    years so that you can coast into your retirement.
    I have gone into more detail on the various types of financial Independence in a previous
    video which I'll leave Linked In the description if you're interested in learning more.
    Level 5 - Financial Security is effectively when your cash flow from wealth such as you
    are investments has grown to large enough that it can provide for your annual basic
    survival expenses.
    Now I say survival expenses because I do differentiate that from living expenses survival expenses
    are just the basic things you need to survive Food, Water, Shelter, some form of transportation,
    clothing and probably insurance.
    This does not include things like Netflix subscriptions or cable bills or things like
    that it is purely survival expenses.
    So this may not be exactly the ideal spot to retire and I certainly wouldn't want to
    retire at this point but it is an important level to keep in mind because it does give
    well security.
    If you were to get fired today and you were on level 5 you would be okay you could survive
    until you found another job.
    This is essentially the first level that really gives you I guess that piece of mind even
    if the lifestyle should you have chosen to live it may not be the most lavish.
    Level 6 - Financial flexibility is similar to Financial Security just one step up.
    It is when you have the ability to live off of your current cash flow from your wealth
    assuming that you have a flexible spending plan that adjusts for up and downs in the
    So if the markets up 20% one year you're able to spend a little bit more but if the market
    is down 20% the next year then you don't spend quite as much.
    I've seen it defined many different ways so it could vary depending on who you ask,
    but the one that I personally like the most is that it is roughly half of your full financial
    independence goal, or roughly about 12.5x your current annual expenses if you follow
    the 4% rule to get an idea of how much money you need to retire like I've explained in
    previous videos.
    So it isn't quite Financial Independence yet but it's close.
    Level 7 - Is financial Independence and it's usually based on the 4% rule which I have
    covered in a previous video.
    You can follow the 4% rule when you have saved roughly 25x your annual expenses.
    The vast majority of the time this will be enough money to allow you to maintain your
    current lifestyle in retirement and as a result, you can be considered financially independent.
    And some articles end it right there but I think there are a couple of levels that are
    a bit higher than that that are worth considering even if some of us may decide to not ever
    try to achieve them because being at level 7 allows them to do what they wanted all along.
    So let's talk about those other levels.
    Level 8 - Is Financial Freedom which I've often seen defined as the cash flow from your
    Investments is greater than financial Independence and a few more life goals.
    Life goals, of course, will differ for everybody but this is could be something like taking
    a trip or two overseas or moving to a new place you've always wanted to live but haven't
    had quite enough money to live there up till now or whatever the case may be for you like
    I said it's different for everybody.
    Level 9 - Is financial abundance and this is quite simply just that the cash flow from
    your Investments is more than you will ever need.
    You could spend it if you really wanted to but it would actually take some effort.
    And the stuff from level 8 doesn't really cut into it much at all.
    So you could up those goals even more and still have more cash flow left over at the
    end of the year.
    This also probably has a slightly different definition for each person depending on who
    you ask, but I like to think of it as roughly 3x your financial freedom number because this
    would allow you to experience a horrible bear market where your investments go down by 50%
    and still has 1.5x the amount that you would need to maintain the lifestyle you lead when
    you reach level 8.
    To me, that means that it is likely more than you will ever need, but again that one is
    strictly my own opinion on the matter.
    So those are the 10 levels of financial Independence, now let's walk through a hypothetical example
    of how someone could go from Level 0 to being financially independent in a single lifetime.
    John and Jane are recently married couple each making $20 an hour at age 23 or $83,200
    a year between them assuming no overtime.
    They manage this because they are not only good hard-working people but got great grades
    in school and we're selective about the job that they decided to pursue.
    Obviously just like everyone else they would have started off as Financial dependents and
    as they were going through college they would have been building up student loans that they
    would not have had the money to pay off (assuming of course that they didn't earn enough money
    while in school to keep up with the rising debt).
    In all they have credit card debt, two car payments and the student loans which have
    balances of $5,000, $35,000, and $60,000 respectively, but since they got their jobs they are no
    longer financially dependent and their incomes have allowed them to become current on all
    their debt payments without the help of others.
    In addition to the regular monthly debt payments, their annual expenses are $48,000 a year.
    So they are currently in level one Financial solvency and trying to figure out a way to
    move to level 2 Financial stability.
    In order to do that they need to figure out a way to build up an emergency fund.
    Now if they're following the 10 levels system to a T then they would look to build a 3 to
    6-month emergency fund of their survival expenses.
    However, this is not the only way to approach it say if you were to follow Dave Ramsey 7
    baby steps you would start off with just a $1,000 starter emergency fund and then get
    right onto attacking your debts.
    And other Financial systems and plans may have you approached it an entirely different
    Either way is perfectly fine because the 10 levels system is not meant to be a financial
    formula per say it's more there to give us some sort of guidepost so that we can better
    track our progress towards achieving Financial Independence.
    But for the purposes of this video, I am going to assume that they follow the 10 levels in
    order so we are going to be building up a full emergency fund.
    In order to find how much of an emergency fund they will need we will need to know how
    much money they need to survive not necessarily on their current level of expenses while they
    have jobs but purely on Survival expenses which are basically your four walls of your
    financial house or in other words food shelter including utilities Basic clothing and some
    form of transportation as well as the insurances that are related to that assuming there are
    In this case, I'm going to assume that their survival expenses are right around $3,000
    a month.
    Which means that in order to get a 3-month emergency fund they would need $9,000 in order
    to get a six-month emergency fund they would need to save $18,000.
    Both John and Jane feel that their jobs are pretty darn secure and the market is doing
    fairly well so it's not likely at least in the near-term that they would get laid off
    because the company has to downsize so they decide together that they are comfortable
    with having just a 3-month emergency fund of $9,000.
    So with $83,200 a year in income, $48,000 a year and expenses, plus minimum monthly
    payments of $100 on the credit card which is 2% of the balance, $550.78 on the car loans,
    and $621.83 on the student loans they will have approximately $1,660.72 a month left
    over to start building their emergency fund.
    However, both John and Jane have been looking into their finances and researching a lot
    lately and they become fired up at the possibility of becoming financially independent while
    they're still young.
    So they want to see if there's a way that they can speed this whole process up.
    And as it turns out thankfully there are many.
    After taking a look at the options they decide that they're going to work as much overtime
    as they possibly can (for the sake of Simplicity I'm going to assume that they manage to work
    on average 5 hours per week of overtime which will increase their monthly income by about
    $1,300 a month, meaning that instead of $1,660 a month they will have $2,960 a month left
    over) and they're going to sell both of their cars and buy some nice used cars with cash
    to help knock down some of that initial debt.
    After putting out a couple of ads online they managed to find buyers for each of their cars
    that is willing to give them $15,000.
    So they take that $30,000 and use $5,000 of it to pay off the credit card balance and
    another $10,000 to buy a couple of used cars from someone that they know takes good care
    of their Vehicles whether that be a family friend or just a mechanic that they Trust.
    The remaining $15,000 is thrown at their car loans.
    This means that the credit card loan is fully paid off and therefore the hundred-dollar
    minimum payment is no longer needed.
    So John and Jane start throwing $3,060 per month into their emergency fund and get it
    fully funded in 3 months with a little bit left over at the end of the third month to
    throw out their car loan.
    Over the course of those first three months, they managed to bring the car loans balances
    down to $18,423 thanks in large part to the $15,000 that they threw at it in the first
    month after selling the cars and also making the minimum payments in the first three months.
    Now that their emergency fund is fully funded however they're able to throw that $3,060
    a month in addition to the $550 a month minimum payment at the car loan and get it paid off
    in 6 months flat.
    So a mere nine months into their Journey John and Jane not only have a fully funded emergency
    fund but they also have paid off both of their car loans.
    Now there are just the student loans to tackle.
    And thanks to the fact that they've been making minimum payments on them for 9 months and
    the fact that they had a little over $3,000 at the end of the ninth month after paying
    off their car loans their student loans now have a balance of $53,263.
    John and Jane follow the same pattern that they did with the car loans throwing the $3,600+
    which is what they now have left over at the end of every month because they no longer
    had a $550 car payment to make and they managed to get their student loans paid off in full
    in 13 months.
    So John and Jane have managed to become debt free and have a fully funded emergency fund
    in 22 months.
    They have now reached level three and because of that they now have over $4,200 a month
    left over to start investing.
    This brings us to level four coasting Financial Independence.
    Let's assume that John and Jane want to retire by the age of 65.
    That means that whatever they put in now needs to be enough to grow to a point where it can
    support their lifestyle in retirement by the time they're 65.
    If we assume a rate of return on an average in the market of about 10% before inflation
    and an inflation rate of about 3% per year on average then we can get a rough estimate
    of how much John and Jane need to put away in order to achieve a state of coasting Financial
    In this case, since they're 24 about to be 25 they will have somewhere in the neighborhood
    of 39 or 40 years to let the money grow before needing to take any of it out.
    If their expenses were $48,000 a year at age 23 then 42 years later if we assume a 3% rate
    of inflation they would need a tad bit over $166,000 each year to live on.
    Again assuming we follow the 4% rule to figure out how much they need once they fully retire
    to be financially independent that means that they would have to have at least $4.15 million
    invested in the market by the time they turn 65.
    In their case, they would need about $110,000 saved up give or take in order to achieve
    coasting Financial Independence and because they're able to save about $4,233 a month
    now that they're debt free, they're able to hit that goal in 2 years flat.
    Meaning that in theory, they would be able to step down from their jobs to a more rewarding
    less stressful but probably lower-paying job just 3 years and 10 months into their financial
    That is incredible!
    But like I said coasting Financial Independence wasn't their end goal.
    They wanted to be fully Financial Independent so they keep working and investing for now.
    The next level is level 5 Financial Security which is achieved when your cash flow from
    your Investments is greater than your annual survival expenses which remember is $3,000
    a month or $36,000 a year in John and James case.
    Because they are debt-free, are making good money at their jobs, and being intentional
    with their finances they Achieve Financial Security in a little over 4 years with over
    $367,000 in their portfolio.
    It is been a mere 87 months or 7 years and 3 months since they began their financial
    John and Jane are 30 years old and they are able to get by on their Investments alone.
    In theory, they could retire now, it wouldn't be the most glamorous retirement and it wasn't
    their goal but it is an option they have.
    They don't have to worry about losing their jobs anymore because even if both of them
    lost their jobs today they would be able to make it long enough to either find a new job
    or some other source of income.
    This is really the first level where you start to get that piece of mind when it comes to
    money at least in my opinion.
    Next is financial flexibility which as I mentioned earlier in the video has many definitions
    depending on who you ask but for the purposes of this video, I'm assuming that it is roughly
    12.5x your current annual expenses which for John and Jane would be roughly $600,000 or
    about $855,000 if you account for inflation.
    This means that they would Achieve Financial flexibility 9 years and 8 months into their
    Journey not accounting for inflation or about 11 years and 9 months if we do account for
    John and Jane continue investing through all the highs and lows of the markets until they
    reach Financial Independence exactly 14 years into their financial Journey assuming we don't
    account for inflation or 18 years and 3 months if we do.
    So you might be wondering why did I split up the accounting for inflation time frames
    and the not accounting for inflation time frames should we always be accounting for
    Well technically yes but the reason I split them up is because in my experience taking
    this journey myself as well as seeing others take it, this journey changes how you view
    a lot of things and more often than not those changes lead to you valuing things such as
    freedom of mobility and location and freedom of time to be able to spend with the people
    you love more and valuing more material things that cost possibly a lot of money less and
    That's not to say that everybody becomes minimalist going through this journey, I'm not saying
    that at all but I have seen a lot of people who have gone through this journey become
    closer to minimalist than they were when they started the journey as they find out more
    and more things that they used to buy just don't provide enough value or happiness
    for them to be worth the purchase.
    They find better uses for their money and time and as a result, they generally tend
    to spend less.
    Which means that even though inflation is technically increasing your expenses by making
    every dollar less and less valuable over time, if you're also decreasing your expenses because
    what you value is changing it may even out or in some cases, you may even see your regular
    expenses going down year-over-year as you continue through this journey.
    So that's why I split them up.
    And, before I go, I do want to mention that based on what I've seen on various articles
    and forums some people really like to have even more goals to chase as they go through
    this journey than what I've laid out today in this video so if that's something that
    would help you feel free to break down these levels even further then I have today this
    is obviously just the list that I used and what worked for me, but you could take it
    even further.
    For example, Debt Freedom could be broken down into three separate stages: One where
    you are free from all high-interest debt, a second where you are free from all debts
    except for the house (if you have one), and a third where you are totally debt-free.
    You could tackle the coasting Financial Independence level in a similar way breaking it down into
    two stages: One where are you have invested enough to survive in retirement and a second
    where you have invested enough in order to maintain your current lifestyle, adjusting
    for inflation of course, in retirement.
    And the financial independence level could also be broken down into three stages: Stage
    one would be where you are at a survivable level of financial Independence, stage 2 would
    be where you have achieved leanfire status, and stage 3 would be where you have achieved
    full Financial Independence on your current lifestyle assuming that it is above the leanfire
    So what do you guys think of this 10 levels system of tracking our progress to financial
    Do any of you use a similar system to track your progress?
    If so, what is it and what level, step, or stage are you guys currently on?
    Let me know in the comments section below.
    But that'll do it for me today once again if you enjoyed this video be sure to subscribe
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