There will be the familiar firework displays and barbeques this Fourth of July as we all reflect on the freedoms we enjoy. I wonder how many of us can include financial freedom on that list? As I work with my clients, I often consider what financial independence means for them, especially in terms of making their dream of retirement a reality. This month, I thought I would share my thoughts on the key elements of financial freedom.
Decisions About Debt
It is well established that Americans have a lot of debt. And the Federal Reserve reports that consumer debt has been on a steady rise in recent months. In fact, consumer debt had the largest increase since November 2001 in March of 2012, rising by $21.4 billion from the previous month.
I often talk about "good debt" versus "bad debt" with my clients. There is a big difference between these two types of debt and I encourage you to structure your finances to first deal with bad debt, in particular credit cards. A recent study commissioned by the ING Retirement Research Institute found that over one quarter (26%) of respondents always keep a running balance on their credit cards. In addition, U.S. Census Bureau data shows that, on average, Americans own nearly nine credit cards.
I often recommend to my clients that they should avoid charging anything on their credit cards that they can't pay off at the end of that month's billing cycle. Credit cards can be a convenient and effective way to purchase goods and services, but if utilized incorrectly, they could morph into a financial time bomb. A credit card gives a consumer a false sense of financial security and encourages them to live beyond their financial means. One of the first steps in becoming financially independent is to free yourself from the various types of bad debt. Don't put the cart before the horse, and try to do anything financially before you address a strategy to become bad debt free.
"Good debt" includes things such as your mortgage or student/car loans. Remember, though, that fiscal responsibility applies to this type of debt. For example, if your child is going through the college admissions process, you may want to discuss and factor in the tuition costs of various choices. Or, perhaps a "gently" used car would serve you just as well as a new one, and you could save a significant amount in car loans.
Protect and Grow
A key component of financial independence is building protection and growth potential into your financial plans. When was the last time you looked at your life insurance coverage? Do that homework on yourself and your spouse to help protect against the financial impact of death and ensure that you continuously have financial support.
In addition, a "rainy day" reserve fund allows you to stay afloat in the event of an emergency, job change or unexpected large medical or household expense. I generally recommend that my clients have 3-6 months of income that is easily accessible in a money market or savings account.
Your investment portfolio can also help establish financial independence. The growth potential from investing wisely geared towards the long-term is at the core of financial independence.
And lastly, retirement savings is your ticket to long-term financial prosperity and independence in your golden years. You want to live the life you envisioned until you reach a ripe old age. Don't let financial dependence become a stumbling block to your retirement happiness.
In conclusion, here is a check list of five "to-dos" to help you reach financial independence.
- Determine what percentage of your take-home pay goes to debt obligations and set a goal for your debt to be no more than 15%. Work towards reaching that goal, finding ways to reduce spending and increase debt payback amounts.
- Protect yourself through starting or growing your "rainy day" fund and assessing your family's life insurance coverage.
- Commit to retirement savings for your long term financial independence.
- Be realistic about goals and budgets. It is not realistic that the "entertainment" budget could or should be completely eliminated, so build this into your plan and commit to sticking within your budget.
- Consult with a financial adviser to help you prioritize financial commitments and create a realistic budget.
ING Retirement Coach Jacob Gold is a third generation financial adviser. He is a published author of "Financial Intelligence; Getting Back to Basics after an Economic Meltdown", which was published in August 2009. Gold is a CERTIFIED FINANCIAL PLANNER™ practitioner and FINRA Series 7, 24 and 66 securities registered.
Securities and Investment advisory services offered through ING Financial Partners, Member SIPC. Neither ING Financial Partners nor its representatives offer tax advice.