One thing that always frustrates me about financial advice articles is that they always seem to focus on just one topic as the golden rule everyone must follow in order to prosper.
"Build a business and achieve your dreams!" "Max out your 401k for a great retirement!" "You must cut your spending to live within your means!" Okay, yes, all of these things are true, but if you really read those articles none of them touch on any points that actually matter in the long run.
It is great for an article to profile some random blogger who lives off a meager income in South East Asia, but most articles about them also fail to tell you any relevant details about their business model. Maxing out your 401k also isn't a horrible idea, but you also have to wait until you are in your 60's to touch it. Cutting spending is also wonderful, except for those who can't.
The unfortunate truth is that for most, in order to achieve digital independence or even just get out of debt and simply live a decent life, you have to do a bit of everything- and that is exactly what we're pursuing in our quest for financial independence.
A Three Pronged Approach - Build an Income, Reduce Spending, and Save!
In our first post in our Lifestyle Design series, we shared a list of our digital independence goal based on our current spending, and that figure was around $125,000 per year. This number took a lot of liberties and made several bold assumptions, but is overall a fairly good target for us either way as it is similar to our current earnings while working.
Now, it would be all well and good if we just said "Let's go build our business to achieve this figure. Ready? Go!", but really we are doing more than just that.
We are looking at our monetary investments through multiple angles to ensure that we reach our goals even if any one idea doesn't pan out the way we'd like. This means building our business to bring in new income, reducing our spending to give us a bigger safety net, and saving as much as possible through investments to have a secure future no matter what happens.
If you have any hopes of achieving digital independence, every single one of these should be a part of your grand plan.Today I wanted to share a bit more about our logic in reducing our spending, because when it comes down to it this is one of the biggest safety nets we think we are able to provide ourselves, and is something more people need to consider when looking at this topic from the big picture.
Reducing Spending May Provide the Biggest Safety Net of All
Most articles you read would tell you to reduce your spending by cutting out lattes at Starbucks, bringing in a roommate, or doing other things to drastically cut your costs. I do find all of these to be practical for those who are unable to live on the money they are currently making, but we are doing just fine and really do not want to change our lifestyle as it stands right now (in fact, if we add on our dream travel plans, it'll only get more expensive at our current spending).
What we are doing, on the other hand, is looking at reducing our spending in the long run to minimize the income we need when our lifestyle design plan comes to fruition.
The reason we can do this is because, like most others out there, we carry a large number of long-term debts that most have for a big chunk of their lives. For us this includes student loan debt (we have about $30,000 total), a soon-to-be-acquired mortgage (we hope ours won't exceed $200,000), and car loans (another $30,000 for two cars).
Yes, it sickens me to see this number, but this is life.If you look at our current spending level based on all of these figures, this amounts to nearly $2,500 per month and is about 60% of what we spend outside of savings and taxes. If we could get rid of that, our monthly spending would drop from $4,200 per month to just $1,666 per month- including our current vacation plans!
Now I have to take a moment and ask a question that has a fairly obvious answer.If you are building a business to achieve digital independence, is it easier to hit a target of $4,200 per month in available spending (after savings and taxes) or $1,666 per month (after the same exact savings and equivalent taxes) to maintain the same lifestyle you have now?
Obviously, you're going to pick the latter.
This is why we've decided to be quite aggressive at paying down our debts over the course of the next several years. There is no guarantee we'll be able to hit that $4,200 per month in available spending from a business to maintain our current lifestyle, but that $1,666 per month is a much more reasonable number to achieve.
Sure, we may need the larger figure for our ideal lifestyle, but digital independence and achieving our ultimate goal of a life full of travel are not necessarily the same thing- and we have to start somewhere to get the ball rolling.
Our Plan for Paying Off Debts
Although this technique has been published time and time again, so much so that we do not know who the original source is, we are on something that we refer to as the 50/50 plan.
In this plan we are looking at our large debts illustrated above and are paying them down as fast as possible (highest interest rate first) with any income that is available. Once one debt is paid off we take 50% to pay off the next debt and 50% to put into savings and investments as a means of diversifying our income. We repeat this for all major debts until it is all paid off, which will end up being on an incredibly accelerated schedule.
Our planned schedule is as follows:
- Save for down payment on a house at $2,000/month (our current savings rate). We will have this in approximately one year from publishing this post.
- Once the down payment has been acquired and a mortgage has been taken out, split half of that into proper investments ($1,000/month) and half into paying off student loans ($1,000/month + our current spending of $350/month).
- Once the student loans have been paid off, split half of our regular loan payments into savings (+$175/month) and move the other half plus the extra to our car loans ($1,175/month + our current spending of $550/month).
- Once the car loans have been payed off, split half of those regular payments into savings (+$275/month) and move the other half plus the extra into our mortgage ($1,450/month + current spending, which right now is, coincidentally, also $1,450 per month).
Well, if we kept working and didn't earn a single penny extra through our websites, we would free up $2,900 per month more that we could do with whatever we like while also having another $1,450 per month going into savings outside of our 401ks. But since we are trying to earn more money on our websites, this would also lower the threshold we need to reach to make digital independence possible.
To Make It Work, You Really Have to Earn More!
I'm going to save you the trouble from doing the math- paying down your debts on freed up income alone may not get you to your goals on an accelerated timeline (which for us is a five year target). Paying down a 30 year mortgage at a double payment rate may get you closer to a 10 year payoff, which is great for a lot of people, but that still isn't good enough for us.
You really have to focus on earning more money in the process, which we will be doing through our business ventures. But there is a catch- we also will be putting all of that money into the pay-off structure as well.
This is where a second important topic comes into play, one we are calling "the tipping point."
The tipping point is when our business income is large enough to cover all of our expenses based on our current lifestyle. This is the first point where we could theoretically quit our jobs to pursue this gig full-time with only small adjustments in our quality of life if we ignored all of the above pay-off goals altogether .
Sure, if our business ventures become a success and we reach this figure we could quit without paying off our debts, but what if we started getting close and didn't? We'd have our original income, extra savings from our already paid off debts, and an entire full-time income that could help us improve paying down our remaining debts in 1/6 of the time. This is why it is called the tipping point- once you get here everything becomes a whole lot easier and a lot of opportunities open for you that you didn't already have.
A few extra years of working is a small price to pay to reach our goals from there.
Is This The Most Practical Method?
Before you rush to the comment section to tell us that we'd be stupid to pay off the entirety of a house at 3% interest when you can earn more money in the stock market, stop right there. We know this already, and this is why we are investing the other 50% of freed up debts as savings in addition to the pay-off structure.
That other 50% we will be investing over the five year pay-off period will amount to about $60,000 by the time it is all said and done, plus any gains, and is a good supplement to our pay-off plans in the big picture.
It is obvious that we could invest the entirety of our house fund over those two to three years we hope to pay it off in, assuming we reach the tipping point, and have a tidy sum at the end of the day. But we then have to ask another question: would you rather have an additional $200,000 in the bank at the end of those years (with about $18,000 being average investment gains) or reduce your annual spending by $18,000 per year for the next 20 years?
The latter consistency sounds good to me, and I'll take that $60,000 from the 50/50 plan as a nice parting gift.As we mentioned early on in this post, one of the biggest concerns we have about moving into a digital independence lifestyle in our own businesses is having a safety net. As we've already seen our income levels can vary considerably month to month, we want to be certain that we can maintain our earnings if we ever move into this as our only source of income.
After thinking about it, we realized that we would much rather have lower expenses every month than tapping into our savings and investments when we have a bad month.
Reducing our mandatory spending by up to 60% is one way to do that with relatively little extra effort on our part, and if we're lucky enough to reach our tipping point and pay everything off in the process, we'll be bringing in enough to get started on our dream travel lifestyle with a healthy buffer in between.
Yes, we'll end up with less money in the long run, but our financial security is worth far more than what number is visible in our bank account. Unfortunately, so many financial advice articles seem to miss this one, and is something we hope others pursuing digital independence will consider before making the leap themselves.
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