I speak to clients on a daily basis regarding management of their wealth. One common trend I observe is many people aspire to reach financial freedom at some point in their lives, but most are clueless how to get there. Financial freedom is the point in your life when your work becomes an option rather than a means of survival.
In this article, I outline some broad strategies on how you can get started along this journey towards financial freedom.
The 4-3-2-1 Approach
One simple rule of thumb I tend to adopt is going by the 4-3-2-1 ratios to budgeting. This ratio allocates 40% of your income towards expenses, 30% towards housing, 20% towards savings and investments and 10% towards insurance. While this is by no means a hard fixed rule, it is a useful guide to ensure you are not over-allocating resources towards any one single area while neglecting the rest.
For a young person who has yet to acquire the first property, the 30% for housing can be channeled towards savings and investments or set aside for the eventual down payment or renovation of the house. A person with fewer liabilities or dependents may choose to allocate less towards insurance and more towards savings and investments so they can achieve financial freedom at an earlier age. Allocating 40% of income towards personal expenses is usually comfortable for most without compromising on lifestyle consumption.
Insurance as the foundation
In the overall wealth management strategy, insurance forms the foundation of the financial portfolio. In the event of a major illness or accident, insurance serves as a buffer to prevent your wealth from being wiped out in a single catastrophic event. For hospitalisation and surgical coverage, it is a good idea to explore integrated shield plans offered by private insurers to supplement your basic Medishield Life. These generally offer a more comprehensive cover and provide more options when it comes to treatment.
In terms of life insurance, I tend to recommend between five to ten years of annual income worth of coverage as a guide. This will usually cover you for critical illness, total permanent disability and death. In the event of critical illness, the payout from the critical illness cover will make up for expenses not covered by your hospitalisation and surgical plans while replacing your loss income when you recuperate. In the unfortunate event of death, the death benefit will be paid out to your beneficiaries to take care of your dependents.
This insurance portfolio can be supplemented by accident cover, disability income and early stage critical illness to provide a more comprehensive insurance portfolio. By structuring the portfolio with a mixture of whole life, term or investment-linked policies, most people should have no issues fitting their insurance portfolio into 10% of income.
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Generating passive income through savings and investments
For someone who starts out relatively young, allocating 20% of income towards savings and investments is a good starting point to work towards financial freedom. After setting up an emergency fund of about 3 to 6 months of your income, this portion of your income should be channeled towards instruments such as stocks, exchange traded funds (ETFs), unit trusts or endowments to make your funds work harder for you.If you have yet to purchase your first property, it is a good idea to channel the additional 30% from housing into savings and investments. This gives you a head start in terms of accumulating and compounding your wealth.
One of the common issues I face with regard to investment planning is people tend to invest without an idea what they are investing for. This is a concern because there is no time frame and estimation on the amount they are trying to accumulate. There is no way to identify if they are on track towards what they are working for. One key step I try to do is to work out with clients exactly when do they intend to reach financial freedom and how much funds are needed.
Financial Freedom for the Next Generation
If the earlier steps are done right, most people should have more than what they require in their life time at some point. This is when they should look into how their assets are distributed when they are gone. Estate and legacy planning tends to be an after-thought for many people. The common approach tends to be whatever is not spent will be left behind for the next generation. Singaporeans also tend to favour property or real estate as an asset class. What many fail to realise is your best investment can very often be your worst estate plan. In particular, property can be tricky if not handled properly.
For example, in handing down a property with an outstanding loan, one potential issue is if the beneficiaries are unable to take up the loan. They may be left with no choice but to sell the property which may not be the intention of the giver. They may also be exposed to market risks if market conditions are not favourable. Having a well thought out estate plan will go a long way towards mitigating these issues and assisting your next generation to reach financial freedom earlier in their lives.
While I have outlined some broad strokes in managing your wealth and working towards financial freedom, it is important to recognise every individual may have unique circ*mstances which may require different approaches. For specific advice on how to better manage your wealth, do consult a qualified financial adviser to assess your current financial situation.
About
Royston works with professionals and executives towards financial freedom. He is an accredited Chartered Financial Consultant (ChFC) and Associate Specialist in Estate Planning (ASEP). He is a certified IBF Advanced (IBFA) practitioner by the Institute of Banking and Finance Singapore. Doget in touchif you like to explore how you can work towards financial freedom.
FAQs
The 4-3-2-1 Approach
What is the 3 2 1 rule in finance? ›
A 3-2-1 buydown mortgage offers homebuyers a financing option that can get them into a home despite a high interest rate environment. It offers them a way to save money on monthly loan payments in the first three years of the loan.
What is the 4 1 2 1 2 budget? ›
That also brings us to the 4:1:2:1:2 ratio. I recommend following this rule as a starting point to manage your finances, whereby 40% of your monthly salary should go towards necessities, 10% of it to short-term savings, 20% for investments, and then the next 10% for insurance.
What is the 4321 investment strategy? ›
Real Estate Investing with 3.5% Down
The "4" Represents your first purchase of a four unit building, then the "3" represents the pruchase of a three unit building, the "2" represents the purchase of a two unit building, and the "1" represents the final transaction of purchasing a single famliy onwer occuped unit.
What is the 8 4 3 rule in mutual funds? ›
The rule of 8-4-3 when it comes to compounding indicates a style of investment that accelerates growth with time. Initially, a corpus doubles within 8 years through an average annual return of 12% subsequently another doubling happens for the same period after another 4 years following its initial setting up.
What is the 4 3-2-1 rule? ›
One simple rule of thumb I tend to adopt is going by the 4-3-2-1 ratios to budgeting. This ratio allocates 40% of your income towards expenses, 30% towards housing, 20% towards savings and investments and 10% towards insurance.
What is the 4 3-2-1 rule in real estate? ›
Analyzing the 4-3-2-1 Rule in Real Estate
This rule outlines the ideal financial outcomes for a rental property. It suggests that for every rental property, investors should aim for a minimum of 4 properties to achieve financial stability, 3 of those properties should be debt-free, generating consistent income.
Is the 50/30/20 rule realistic? ›
The 50/30/20 rule can be a good budgeting method for some, but it may not work for your unique monthly expenses. Depending on your income and where you live, earmarking 50% of your income for your needs may not be enough.
What is the 50 30 20 budget rule? ›
Key Points. The 50-30-20 rule is a simple guideline (not a hard-and-fast rule) for building a budget. The plan allocates 50% of your income to necessities, 30% toward entertainment and “fun,” and 20% toward savings and debt reduction.
How much should I budget for a 60k salary? ›
On a $60,000 salary, which roughly translates to $50,000 after taxes (depending on your location and tax rates), 60% would be about $30,000 per year, or $2,500 per month. Savings (20%): This portion should be allocated towards your savings, investments, emergency funds, or debt repayment.
Basically, the rule says real estate investors should pay no more than 70% of a property's after-repair value (ARV) minus the cost of the repairs necessary to renovate the home. The ARV of a property is the amount a home could sell for after flippers renovate it.
What is Dave Ramsey's investment strategy? ›
Ramsey's recommendation is to invest 100% of your portfolio in stocks, with no allocation to bonds or other fixed-income investments. He believes that over the long term, stocks will outperform other asset classes, and that a well-diversified stock portfolio is the best way to build wealth.
What is the 10 5 3 rule of investment? ›
The 10,5,3 rule offers a simple guideline. Expect around 10% returns from long-term equity investments, 5% from debt instruments, and 3% from savings bank accounts. This rule helps investors set realistic expectations and allocate their investments accordingly.
What is rule 69 and 72 in financial management? ›
Rules of 72, 69.3, and 69
The Rule of 72 states that by dividing 72 by the annual interest rate, you can estimate the number of years required for an investment to double. The Rule of 69.3 is a more accurate formula for higher interest rates and is calculated by dividing 69.3 by the interest rate.
What is Rule 72 in finance? ›
Do you know the Rule of 72? It's an easy way to calculate just how long it's going to take for your money to double. Just take the number 72 and divide it by the interest rate you hope to earn. That number gives you the approximate number of years it will take for your investment to double.
What is the 15x15x15 rule? ›
What is the 15x15x15 rule in mutual funds? The mutual fund 15x15x15 rule simply put means invest INR 15000 every month for 15 years in a stock that can offer an interest rate of 15% on an annual basis, then your investment will amount to INR 1,00,26,601/- after 15 years.
What is the 10 5 3 rule in finance? ›
The 10-5-3 rule can be used as a general principle for diversifying your investment portfolio. It suggests that 10% of your portfolio should be allocated to high-risk, high-reward investments, 5% to medium-risk investments, and 3% to low-risk investments.
Which best describes the 3-2-1 rule? ›
The 3-2-1 Rule is a data protection strategy that recommends having three copies of your data, stored on two different types of media, with one copy kept off-site.
What is the 33 33 33 rule in finance? ›
What Is the 33-33-33 Money Rule? The 33-33-33 money rule is a budgeting framework that suggests dividing your after-tax income into three equal parts: 33% for living expenses and necessities, 33% for savings and investments and the final 33% for discretionary spending or personal enjoyment.
What concept is addressed with the 3-2-1 rule? ›
The basic concept of the 3-2-1 backup strategy is that three copies are made of the data to be protected, the copies are stored on two different types of storage media and one copy of the data is sent off site.
