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Seven habits of the financially independent

Financially independent people exercise consistently sound decision-making by consulting widely.

Success doesn’t happen overnight. It is generally the result of consistent habits applied over time to achieve a specific set of goals. Despite the many rags-to-riches stories that abound, most wealthy people did not create their wealth by accident. Most people who have amassed sizeable wealth and who enjoy financial independence have done so through careful planning and sheer determination to achieve their financial goals. Here are the top 10 habits practised by those who have reached financial independence. 

They spend less than they earn

As trite as this may sound, the reality is that wealth is what you don’t spend. If you were to view yourself as a business entity, the difference between what you earn and what you spend every month would be regarded as your ‘profit margin’. Every company works towards creating a bigger profit margin on a consistent basis so as to improve its profitability over time and create sustainability for the business into the future. The same principles apply when it comes to creating personal wealth. There is little correlation between what you earn and your net asset worth.

Wealth is created by spending less than you earn and investing the difference in strategies that provide returns that beat inflation consistently over time. Most who have employed this strategy to create wealth have done so by making sacrifices: driving affordable cars, living in modest homes, enjoying local holidays, and wearing unbranded gear – all to ensure that their investable income is maximised and their financial futures are secured. They’ve done this by finding a balance between what they want now versus what they want most. 

They control their expenses

Tracking expenditure is retroactive in that it takes place after your money has already been spent. Merely tracking expenditure is counterintuitive to wealth creation because it only seeks to determine where your money went last month, as opposed to determining where your money is going next month. Controlling expenditure is a proactive form of money management that involves you actively telling your money where to go and what to do. By proactively controlling your expenditure, you can look ahead to next month’s income and expenditure – a school tour that is coming up, a flight to your best friend’s birthday weekend, a refund that is due to you, a gift voucher that you’ve been given, e-bucks that you’ve earned – and plot a route for your money outflows to proactively ensure that you achieve your ‘profit margin’ while still meeting your financial obligations. 

They maximise tax efficiency

Not using available tax deductions doesn’t make financial sense and over the long-term will result in you effectively giving away free money. Retirement fund investors are gifted a sizeable tax deduction on retirement contributions of up to 27.5% of annual pensionable income, subject to annual maximums. The ability to invest for your retirement with pre-tax money can, over the long term, have a significant impact on the value of your retirement nest egg. Other opportunities for tax deductions include donations to public benefit organisations where donors are able to donate up to 10% of their taxable earnings on a tax-free basis if made to an approved PBO. If you’re intent on contributing towards a charity or cause close to your heart, then it makes sense to make use of the tax deduction.

Similarly, if you invest in a tax-free savings account, the interest earned thereon is fully exempt from tax, as opposed to other investments where interest income is partially exempt. If there is a need for a tax-free savings account in your portfolio, then it makes sense to take advantage of the tax benefits. Other tax deductions to consider are medical credits and travel expenses that are incurred for work purposes. The bottom line is that it doesn’t make sense to leave free money on the table on your wealth creation journey. 

They have a plan

As has so often been said, a dream is just a wish without a plan. Wealth-building is a slow, intentional process and starts with a plan – no matter how modest that plan may be. A financial plan is multi-faceted and entails more than just an investment strategy for wealth creation. The ability to build wealth over time is dependent on a number of factors such as ensuring your income is protected in the event of illness or disability, having sufficient life cover to provide for those you love if you are no longer around, employing strategies to reduce your tax liabilities, detailing an estate plan for the optimal structuring of your assets and the smooth transition of wealth, to name just a few.

Those who have amassed wealth have generally done so by seeking expert advice and through putting a living, fluid financial plan in place that sets them on course for their intended destination. A well-drafted financial plan should be pliable enough to tweak and alter as the circumstances in your life change. Marriage, divorce, retrenchment, career change, having children, inheritance, emigration or death of a spouse are just some life events that a financial plan must be able to accommodate. 

They make good decisions

Poor decision-making costs money, often with long-term financial repercussions that can set you back significantly. Marrying the wrong person, buying a house in the wrong area or at the wrong time, resigning from your job without securing employment first, starting a business without a documented business plan, not taking out enough short term insurance, lending money to a friend, speculating on stocks, falling for an investment scam – these are all examples of poor decisions that can cause one significant financial loss and which can be difficult to recover from financially. Financially independent people exercise consistently sound decision-making by consulting widely, doing their own research, seeking independent advice from friends, family and experts, and having a full understanding of the short-, medium- and long-term repercussions of their actions. 

They control their emotions

When it comes to money, controlling your emotions is more than just resisting the need for instant gratification. Making good economic decisions is highly dependent on us being able to control our emotions, including the psychological and cognitive biases that are hardwired within us. As such, the success of your financial plan is more than just maths. In fact, the success of your financial plan is largely dependent on how well you can control your emotions. This includes your capacity to suppress fear when markets are in turmoil, the ability to think rationally in times of financial crisis, and the propensity to remain composed when others have succumbed to panic.

Although this is not always easy, keeping composure begins with understanding your own biases and how you react in different economic conditions. So important is the need to understand human economic decision-making that it has given rise to the field of neuroeconomics, an interdisciplinary field that seeks to understand how and why we make financial decisions, using a blend of neuroscience, psychology, behavioural economics and event theoretical biology. That said, an experienced financial advisor makes an excellent sounding-board for financial decision-making and for keeping one’s emotions in check. 

They invest in diversified portfolios

It’s widely accepted that picking stocks is not a sound wealth creation strategy and that a well-diversified portfolio is essential when seeking to build wealth over time. By diversifying your investments across asset classes, sectors and industries, you effectively increase the odds of investment success by reducing the effects of an error in the forecast. By holding different investments that will react differently under the same economic event – such as the Covid-19 pandemic – diversification allows an investor to reduce their chances of their portfolio taking a big hit when markets are down.

Diversification can extend further to the mix of people and companies investing your money to ensure that those involved in managing your money hold diverse views and philosophies and that your money is not subject to one particular investment philosophy. As such, the use of multi-managers which provide cost-effective, well-diversified and expertly structured investment portfolios is an excellent option for those seeking diversification at all levels of investments.

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Craig Torr

Crue Invest (Pty) Ltd

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