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Why Financial Independence Is the Key to Retiring Early

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If you want to retire early to do some traveling or to spend quality time with your family, you’ll need to create a plan that will result in you becoming financially independent.

Staying out of debt and building your net worth are two actions that can help you gain financial independence and increase your chances of successfully retiring early. Gaining financial stability requires patience — you need to learn how to effectively manage your money and create passive income streams. Here are the retirement strategies you need to achieve financial independence.

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How to Become Financially Independent to Retire Early

If you don’t see yourself working for a company until you retire, you should explore some other ways to generate income. Building passive income streams — that is, recurring revenue from a business or other endeavor like owning rental properties — keeps money coming in so that you don’t have to rely solely on your savings or Social Security benefits.

Click through for six steps to take to retire early.

Learn: Here’s What It Would Take to Retire Now

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1. Calculate Your Retirement Needs

In order to answer the question “When can I retire?” you’ll need to first calculate your retirement needs, as this number is different for everyone. You might need to consult a financial planner to discuss retirement goals or use a financial planning app or another resource with a basic formula that takes into account your current annual spending, income and year you want to retire.

Financial independence blogger Mr. Money Mustache recommends multiplying your annual spending figure by between 20 and 50 to figure out your retirement needs. You could also use an online retirement planning calculator to create a forecast. Having a defined number in mind can help you visualize your goal and progress.

Plan for Your Future
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2. Reduce Living Expenses

“To get rich on an average income, you need to have lower-than-average spending,” said Mr. Money Mustache, a personal finance expert. Changing your spending habits and getting a handle on your budget are essential steps toward reaching your financial goals. You’ll need to give up bad habits that result in overspending on nonessentials.

Unnecessary shopping habits based on convenience, comfort or just fun are widespread in U.S. society, and spending money in this way is what stands between the average person and true wealth, according to Mr. Money Mustache. Do what you must to break habits that are costing you, and optimize your budget and spending to reduce living expenses.

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3. Increase Your Income

If you’re still living paycheck to paycheck — even after cutting expenses — you’ll need to find ways to increase your income so you have money to invest. Whether your goal is to play the stock market or invest in a business venture, there are several ways to generate more income.

You could take on a part-time job or do freelance or contract work. There are always opportunities to tutor, mow lawns, sell crafts, and even rent out your car or home. You could also focus on building a side business that can provide income in retirement.

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4. Start Investing Early

You’ll have a better chance of reaching your goals if you begin focusing on your retirement investment when you’re young. Even if you think you’ll have more money to invest when you’re older, don’t miss out on the benefits of compound interest on those initial savings contributions now.

Make room in your budget for retirement savings contributions so you can start earning compound interest sooner rather than later. For example, CNN Money reports that if you save $3,000 per year from the age of 25 to 35 at a 7 percent annual return, your initial $30,000 investment will grow to $338,000 by the retirement age of 65.

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5. Decrease Debt

Paying off your mortgage, clearing credit card account balances and paying off loans can help increase your net worth. If your goal is financial freedom, you don’t want to be making monthly payments or paying interest on old debts.

You should do whatever you can to reduce your debt load and avoid acquiring new debt to keep yourself on track, according to Mr. Money Mustache. You might want to consider using a tool like the Pay Off Debt app to organize your debt repayment plan. Click here to see five debts you need to tackle before you retire.

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6. Create Passive Income

“You need to start living a lifestyle in which you’re no longer trading time for money — you can create something valuable one time that people will continue to purchase,” said Pat Flynn, creator of the Smart Passive Income blog. But generating passive income requires patience as well as work.

If you start making money from an online business, generating passive income won’t happen overnight, but it will put you on the path to earning revenue from something you created, said Flynn. In addition to starting your own business, other passive income ideas to consider include investing in a lending club, earning cash back rewards on credit cards and getting paid for promoting digital products on sites like ClickBank.

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Alicia Bodine contributed to the reporting for this article.