21 Principles of Financial Independence

Introduction

Throughout history, humans have learnt (the hard way) the fundamental workings of capitalism. The road to financial independence is filled with the bodies of those who have not heeded lessons from history. With every new investment mania, wealth guru, or market rally, it is easy to get carried away and forget fundamental principles.

I have compiled 21 principles for financial independence based on my experience and knowledge. Many of them I have learnt from books in my recommended reading list. Following these principles will get you 99% of the way to achieve financial independence.

If you only had time to read one thing on this site, this should be it.

What you will learn in this post

You will learn the rules in the game of money. I have divided these principles into five categories:

Behaviours – Money psychology is 90% of the game. If you don’t master your mind, you lose
Planning – Guidelines to give your money purpose and establish positive cash flows
Investing – Statistically proven rules to create wealth easily
Assets – Avoiding typical pitfalls with large purchases
Relationships – money affects our interactions with all around us, whether we like it or not

My list of 21 principles of financial independence

Behaviours

The road to financial independence is boring – Attaining financial independence through investing is actually easy and requires minimal effort. But it takes time and requires patience, which many do not have. Many people are seduced by get-rich-quick schemes or think they can do better than the market. They almost always end up worse off.

What gets measured, gets managed – Keeping track of your finances ensures you know where every dollar comes and goes. No guessing, no human errors / bias to trick you into thinking you’re not spending above your means. You’ll have a clear picture of your finances, resulting in focused efforts to improve your finances. (Read: 5 reasons why tracking is critical)

Discipline equals freedom – This sounds counter-intuitive at first. But the more disciplined you become, the more freedom and flexibility you create. In personal finance, as you save, track, and invest for the long term, you create the financial independence to do whatever you want. Your dream job, your dream vacation, that sports car, anything you want to because you no longer rely on a paycheck.

Focus on the 20% that drives 80% of the results – The 80/20 rule, or the Pareto Principle states that 80% of outcomes come from 20% of causes. For your finances, most of your time and effort should be on behaviours and decisions that have the most impact. Long-term investing, prudence with large purchases and budgeting are examples. Chasing coupons or points, and switching accounts every few months to gain a 0.3% interest income should be secondary.

Planning

If you fail to plan, you plan to fail – No idea what to do with your money? Where to invest? How much do you need for retirement? That’s because you don’t have a financial plan, outlining specific goals and the strategy to achieve them. Every dollar must have a purpose.

Never take on debt of any kind – No personal loans, credit card balances, margin loans, or car loans. Yes, that’s right, you don’t need a car loan. The only exception is a mortgage.

Always pay yourself first – Build the habit of saving / investing consistently by prioritising your future before any immediate expenses. In addition, you’re guaranteed to spend less than you earn. The trick is to set up an automatic transfer to a savings or investment account when you receive your salary. That way you “pay yourself first” and have a portion of funds left in your bank account to spend.

Make your money work for you – Not only should you be earning money, but your money should be earning money too. Don’t let the majority of your money sit idle in a bank account. Use that money to buy assets that generate income and/or capital appreciation (passive income). You earn money while you sleep.

Investment strategy should be based on time horizon(s) – Money required in the short-term, should be put into safe havens such as savings accounts, fixed deposits and bonds. Longer time horizons allow investments into riskier assets such as equities, as there is more time to recover from downturns.

Investing

Returns are always proportional to risk – The higher the returns of an investment, the higher the risk. Savings accounts have minimal risk and minimal interest. Stocks are high-risk but have the potential for higher returns. If an investment claims to have low risk yet high returns, someone is scamming you.

Compound interest is the 8^th wonder of the world – Your money works to make money for you, and that additional money earned makes even more money for you. This exponential growth from compound interest is the only “guaranteed” way to become wealthy. Ignore it at your peril

Nobody can consistently beat or time the market – This is true over long periods (i.e. decades). It’s never worth paying for active management of your investments. Also, time in the market beats timing the market. Use diversified, broad-based, low-cost index funds for easy, simple wealth creation

“This time it’s the same” – Every new market crash or recession, pessimists cry “this time it’s different” and the world is coming to an end. Each time, the market recovers, the economy recovers, new jobs are created and we become optimistic again. But then “this time it’s the same”, we never learn from the past, and are doomed to repeat past mistakes.

Assets

Buying a property is rarely better than renting – Renting makes sense financially compared to buying, especially after accounting for hidden costs. The decision to purchase a property to stay in should be for personal reasons (e.g. settle in one place). Make sure you can afford it and have sufficient buffers. And no, renting is not “throwing money away”.

Buy term and invest the rest, except… – For those without the discipline to prepare for high insurance premiums in old age. Investment-linked plans are useful as a means of “forced savings”, but for additional costs.

Avoid car loans – It’s easy to get carried away when only looking at the monthly loan payments. Instead, always calculate the total cost of buying a car. This will turn you off taking loans and decide to buy used Japanese cars instead.

Physical luxury goods are illusionary, poor signals of wealth – Do not be fooled by others wearing luxury goods, sporty cars, or the latest gadgets. Consumer debt is accessible even to the poor and may not reflect actual cashflows or net worth.

Relationships

The most important financial decision in life is choosing the right partner – The best indicator of achieving financial independence is the alignment of values with your life partner. Too many financial struggles are a result of misaligned financial values. Financial issues are the leading cause of divorces and result in more financial ruin. This can and will make or break you. Read here on my guide to managing finances with a partner.

Family and friends are forever until money gets in the way – Trust, but always protect yourself first. The psychology of money is seductive and can break the tightest of bonds.

(Initial) Social interactions are heavily influenced by outward signals of wealth (and status) – We usually perceive wealthy people as competent, successful, and respected. But we don’t know who among us is actually wealthy. We typically use material goods that we see as an indicator of wealth. So without any other information, we perceive and judge others based on these visible signals, rightly or wrongly so.

Wealthy people struggle with loneliness – They will never know who loves and respects them irrespective of wealth. They are surrounded by “yes men” who want something in return. Believe it or not, they also have (different) financial problems, which are difficult to discuss with others less they be judged as entitled or out of touch.

FAQ

Are these principles always true?

There are always exceptions, nothing is ever black and white. With more knowledge and mastery of financial literacy, you’ll understand what are the exceptions, and why

I disagree with your principles.

That’s up to you, these are my principles that I adhere to. I plan to do more detailed write-ups on each principle, with evidence, citations and statistics.

If you had to choose only one principle, what would it be?

Choosing the right life partner. No matter how much you plan and how much wealth you attain, your life partner is also your financial partner. He/she will either accelerate your financial independence or completely force a different path

Conclusion

Most of these principles are not new or groundbreaking. They have been proven time and time again.

However, knowledge of these principles is just the start of the journey to financial independence. The real test is sticking to these principles over the long term in the face of greed and impatience.