Know These Two Numbers

If you had $10 million you could probably have money fights with yourself, buy lots of unnecessary stuff, help charities in need, and still have plenty of money to be financially secure AND most importantly, hang up your work boots!

So, if you had $10 million you can safely assume you’ve run and completed your financial journey. But what about all the rest of us still progressing on our financial journey?

Here’s the two questions you REALLY need answers for…

• Where are you on your financial journey? (current net worth)
• Where does your financial journey finish? (financial Freedom number)

We’ll say it again, you REALLY need to know the answers to these two questions (and close enough answers can be good enough for most of us).

Why do you need to know these numbers? Well would you join a running race without first knowing how long the race is? No. You’d at least want to know you can finish the race and do so within the time limit given. Would you go to a busy shopping mall without any idea as to where abouts the store is you need to get to? No. You check a map that shows where you are and lists the shop you are looking for.

The same simple logic works for your financial journey. If you don’t take time to work out where you are financially and where you need to get to you financially, you run some big risks!

• You might need to keep working well past your use by date
• You might run out of money after hanging up your work boots
• Right now, you are very likely over saving or over spending and need to adjust
• And perhaps worst of all for you over savers, you might spend extra years working in a job that doesn’t fill up your cup when you didn’t need to!

Know your Net Worth

Net worth is simply a reflection of your assets minus your debts. It is the difference between what you own and what you owe. Therefore, it captures all of your financial efforts in one place. It’s a bit scary to think that your net worth is what you have to show for every day you’ve ever turned up to work, but that’s what you need to do.

Remember, your net worth isn’t about your income - your income doesn’t even factor into your net worth. Your net worth is about how much of your income you’ve been able to turn into wealth. Your income is the fuel that can help create the wealth.

You could be earning $1 million a year, but if it’s all being spent you have a high income and no wealth. It’s your wealth that will determine what you will be able to afford to pay yourself later in life, i.e., when you retire. And that’s why the decisions you are making with your income right now will determine what your life looks like many years from now.

Your financial freedom number

Now that you have a bit of an understanding as to why your net worth is important and how it differs from the income you earn, it’s time to get an idea as to your financial freedom number. Your financial freedom number is the estimated amount of money (wealth) that you envisage needing to generate an income that would suffice to allow you to replace your employment income in funding your lifestyle. For many of you, this income would need to address your day to day living costs, but there may no longer be a mortgage to repay, nor kids to feed.

There are two ways we suggest you work out your number. The first is to immerse yourself into Module 2 of the Wages to Wealth program where we cover off in depth on how to work out both numbers (and put them into your Money Plan).

The second is to use the “rule of 25”. The Rule of 25 estimates how much money you need by multiplying your desired annual income by 25. Here’s an example; Someone decides they’d be comfortable with an income of $50,000 per year, so we multiply the $50,000 x 25 which equals $1.25 million.

The rule of 25 assumes you'll be able to generate an annual real return of 4% per year (i.e. 4% above inflation [with inflation estimated at 3% per annum]). The best thing about this calculation (other than being quick and easy) is the fact it anticipates your net worth is not depleted over time by your income needs. Meaning your financial wealth can potentially be passed onto your loved ones. So if you don’t need to pass your nest egg on to others then this rule of 25 number is likely quite conservative, AND, for those of you nearer to retirement, this doesn’t factor in possible income support by way of the Government Age Pension.

We suggest you have a read of Module 2 and it’ll all make much more sense.

When it comes to all things financial, some of it you might be able to fudge and get away with it. But knowing your net worth and financial freedom numbers is an absolute no-brainer! Neglect these at your peril.

If you have questions or need support, please shoot us an email at [email protected]

Cheers,

Dan and Dave