Investing for Financial Independence

I remember the moment I learned about it. I was 13 and my mother was forcing my brother and I to paint the house. It was an old farmstead that had historical beginnings in 1854. Our family was putting an addition onto the tiny farmhouse to make it livable for us. Though I didn’t realize it then, my parents were investing in us. They were leaving us their legacy – not merely in creating an estate we would one day inherit but something even more valuable than that. I gained the value of hard work and built skills I would use later in life. But I also learned something that would prepare me for creating my own legacy.

Despite the forced labor, my mother thought we should still continue our homeschool studies with financial education. This time it was listening to the book Millionaire Next door while we painted. There were countless stories of normal people growing and building wealth. It struck me how even the lowest income could produce huge amounts of wealth over decades. It was even easy! All it took was little investments early to produces huge gains. This was done by something called “compound interest”. Compound interest is simply that. The interest that you make from your money compounds annually, meaning every bit of growth of that money produced even more growth.

Power of Compound Interest
Take a $100 bill. Say you find a business that would like your money. For the privilege of using your money for growing that business, they will return you 10% of what you let them each year they have your money.

After year 1, they could give you your initial money back plus the 10%. That is $100 for the initial money plus $10 which is 10% of $100. That totals $110. Total = $110 = $100 + 0.1 x $100

Say you wanted to invest your initial investment plus the interest you made the following year. You would be investing $110.

If they agreed to give you the same terms, 10% return for the privilege of borrowing money to grow the business. This next year you would make 10% of $110 which is $11. That is $1 extra than the previous year! This will bring the total investment to $121.

$1 might not seem like much but this effect has tremendous power over time. The 3rd year that compounded sum is invested the return will be $12.1 making the total investment $133.10. The forth year’s returns will be $13.31 making the total investment $146.41. Ever year this keeps snowballing. After 40 years this initial $100 becomes $4525.93!

Importance of Investing Early
Okay, let’s take a look at some twins. Twin number 1, Tom, at the age of eighteen decides he should start investing. He starts contributing $100 a month for 10 years into an investment that makes 10% return. He is contributing only ages 18 – 28 which is a total sum of $12,000 that he invested over the course of his life. At age 28, Tom has $21,037.40. His investment has nearly doubled!

His younger twin Jeff, sees how well his brother is doing and at the age of 28 decides to also start investing. He starts investing $100 a month until he retires at age 65.

Let’s see how the brothers compare. Brother Tom has contributed a total of $12,000 and brother Jeff has contributed $44,400. That’s 3.7 times more than Tom. Let’s take a look at how much each has at traditional retirement age. Brother Tom has $715,354.70 and Brother Jeff has $479,217.30.

What? Tom has over 60% more money than Jeff but contributed about a quarter of Jeff’s? Yes that is right. Here is a cardinal rule of investing over the long run. Money invested earlier has more future value than money invested later.
By simply starting investing sooner will build your wealth greater in your golden years. Now, I don’t advocate stopping investing at 28, this is just an illustration.

Moving on from Here
Although I learned this lesson early, I’m a bit thick headed. I didn’t start investing until after college. Much after age 18 but sooner than 28 and more than $100 a month. It is easy to look back on the past mistakes and get down on oneself about investing. I learned a valuable mantra from Vicki Robinson’s book Your Money or Your Life – “No Shame, No Blame”.

In reality, investing is just like planting trees. The best time to plant a tree is 20 years ago; the second best is today. So, moving past missed opportunities, invest today.

The Goal
Growing money without any work is great. But how does that get put to good use? The goal is to achieve financial independence – the point where the growth of one’s money is enough to pay for one’s life expenses. That’s it! Easy enough?

To figure out how much money one actually needs, most people use the 4% rule. That means that you can “safely” withdraw 4% from your assets and not run out of money over a 30 year timeframe.

If one takes the reciprocal of 4% or 0.04, one gets 25. That means whatever you spend annually, you will need 25X that amount. A person who spends $40,000 a year will need $1,000,000. A family who spends $120,000 will need $3,000,000.
That’s it – it is actually really simple. If you need your investments to last longer than 30 years consider withdrawing a smaller portion like 3.5% or 3.75%.

There are many types of investments and paths to get to this final number. I personally use methods like house hacking, real estate investing, and stock investing to get to financial independence.

Calculate the date you become financially independence using my financial independence calculator.

The Reward
Investing sooner brings more opportunities to one’s life and the ability to give more. Each person’s goals will look different because we are all unique and different. By lessening the financial burden on life, you are able to do what you do best and give our of your abundance not just financially but through who you are.

Out of those investments you can give more. There is an old adage, “Friends don’t let friends give cash”.