Break Out Of Living Paycheck To Paycheck
Good time of day dear readers! This post will cover one of the most important topics that anyone could learn in achieving financial freedom and it is how to stop living paycheck to paycheck. This article will rely on some great teachings from one of the best financial books of all time which is “Rich Dad Poor Dad” by Robert Kiyosaki. If you have not read that book yet it is highly recommended that you do. It is simply the best book to read on how to break out of the rat race, learn how to improve your life and make more money.
Income and Expenses
The first thing we need to talk about is income versus expenses because if you are living paycheck to paycheck your income is equal to your expenses. There are three main scenarios when it comes to income versus expenses, so let’s break it down.
An ideal situation where you want to be is someone whose expenses are 10% lower than their income at minimum then they are going to take that 10% and they are going to invest it or at least save it. You are going to save that 10% for a rainy day fund and eventually invest some of that money and this is where you want to be for a start. Of course it is not where you want to be your whole life because you are going to be working for a long time to ever be able to save enough money to enjoy your life and have a retirement. It means that you want to be saving a minimum of 10% of the income and in order to do that you need to have your expenses below your income. Let’s take a look at the following example, if your monthly income is $5,000 and you have $4,500 of expenses you have 10% or $500 leftover every single month to save as well as to invest.
As we learned in another post (/posts/stop-wasting-money) 63% of Americans are paycheck to paycheck and it is when your income is equal to your expenses. There is no surplus left over at the end of the month, your account balance stays the same, your money comes in and it all goes right back out. You might have a small cash cushion in your checking account but you have no money invested with maybe an exception of your employer’s 401K. That is not enough and you need to be doing things above and beyond, so you are not someone whose balance is the same at the end of every single month, you work 40 hours a week and then you take all that money and blow it away. If we go back to our example, it is when you earn $5,000 a month and spend it all in a single month without saving or investing any portion of it.
The worst situation to be when it comes to living paycheck to paycheck is when you are contributing towards your debt. It means you are in debt and owe money to other people and your expenses exceed the income. If your monthly take home is $5,000 and you spend more than that amount in a single month then you are in this situation where you are accruing debt every single month. Around 82% of Americans are in debt and 43% of them have mortgage debt, so most of us are not living in a home that is paid off, most of us are living in a home that we are paying for with our mortgage. It makes it even worse for people who do not even have enough money to pay for their expenses.
Money Management
Photo by Emilio Takas on Unsplash
Let’s talk about how we can fix this situation. There are two obvious ways to fix it: you can make more money or you can spend less money, or the best-case scenario is to do a little bit of both. When it comes to money management, there are two common approaches that I want to explore today and they include the defensive approach and the offensive approach.
The defensive approach is to lower your expenses. It includes anything from using discounts and coupons when shopping, consuming less energy by turning off lights in a house, keeping a thermostat at a reasonable temperature but that is only going to get you so far and for sure it will not make you rich on its own. It will help improve the situation but it is a defensive approach for a reason and it will help you become a minimalist and take control of your expenses which is not a bad idea overall.
If you want to actually change your situation in a bigger way, I suggest you explore the offensive approach which means increasing your income. In contrast to the defensive approach, when you focus on increasing your income you will not need to cut back on your standard of living that you like, being able to buy foods that you enjoy, going out to restaurants once or twice a month, and other things that you do that you want to continue to do. If you want to stick only to the defensive approach you have to cut things out of your life and scale back but it is much more efficient to think in terms of being offensive and running towards the problem as opposed to running away from the problem. The defensive approach is avoiding the problem that is you are not making enough money and your solution is to shrink down and reduce what you are spending.
How do you go about doing the defensive approach? It is very simple, you have got to spend less money. Figure out what your discretionary and non discretionary expenses are then make a budget and cut things out. Stop spending certain amounts of money on drinks and entertainment and figure out where you spend too much money. You can go to the extent of clipping coupons, use the shopper cards and so on but in my book it is a waste of time and it is much more beneficial to focus on the offensive approach of making more money instead. It also means that you won’t need to clip coupons, look at what is on sale and simply buy what you actually want to buy.
The offensive approach is what I want you to think about and put all your focus in this area instead. The best way to approach the offensive thinking is to look at Robert Kiyosaki’s cashflow quadrant. It is right out of the “Rich Dad Poor Dad” book and you have probably seen this or a variation of this before.
The Way To Financial Freedom
Let’s go over the cashflow quadrant. Depending on your current situation you are one of these things maybe you are multiple of these things which is really good. If you are in two of these categories, it means that maybe you are an employee as well as an investor or a business owner and an investor and so on. Most of us fall into the category of being in the E quadrant or being an employee. This is somebody who has a job and time is equal to money and there is no breaking out of that equation because you are paid a salary or you are paid an hourly wage. If you are paid a salary your time does not even equal your money because there are some times that you may have to work 70 hours and you make the same money. Some days you will work 40 hours and you make the same amount of money but the number one problem with this strategy is that this is not scalable because the only way to make more money is to spend more of your time. Even though you are making money this is not scalable, you are never going to go anywhere and this is not a way to make more money by sacrificing your time. Truth is most of us do not want to work more than 40 hours a week at a job that we are not necessarily enjoying. This is a low-risk approach and for those of you familiar with stocks, low-risk stocks give you a low return, so the low-risk strategy of being an employee will give you a low return in life where you are going to be compensated a small amount of money.
The S quadrant is next because this is where somebody who is self-employed falls to rather than having a job you create a job. You go out there and you find a way to make money by providing a service or providing a skill, so you create a job and hopefully your time is equal to more money because there are less people taking the money out. The idea of having a job is to make the people at the top richer and you are just a worker bee who is making a small amount of money based on how much money you are actually making a company. If you are self-employed you are in control of how much money you are making, how much you pay yourself and time will equal more money. The problem with being self-employed is that time is still equal to money and you are paid by your effort and this still is not as scalable as a business which we will cover next but you can scale being self-employed into a business by hiring people or contracting stuff out. A good thing about moving into the self-employed quadrant is that you do not necessarily have to quit your job, you could be an employee as well as being self-employed by having a side hustle. The great advantage of being self-employed is you are paid by the effort you put in. If you work 90 hours a week you will see more money and if you put in only 20 hours you will get less money, which is great because you are in control of your own destiny and how much money you make. The best part is you can scale it into a real business. At that point you are contracting out and outsourcing the work you do not want to do to scale up the business and focus on bringing more money.
The next in line is the B quadrant. This is the business owners, this is when you have people working for you and people make you money. Most of us are the people making money for business owners. That is not an ideal place to be, so instead of being paid hourly and instead of being paid by your effort you are being paid by your ability to select talent, contract out and manage work and as a result you are being paid by projects or by clients. This is scalable! You are able to hire more employees over time, this is a higher risk and as a result it is a much higher reward. Most of the rich people out there have a business of some kind they started. There is risk involved but for those of us who do this and are successful there are tremendous rewards in doing this.
Then we have the last category, the I quadrant. This is the investors and you can be in any of the previous three quadrants and also be in the fourth investor quadrant. The I quadrant is arguably the most important one because it does not matter if you make $16 an hour or $300,000 a year, you can make yourself a great future by investing. This is when you are an investor and money works for you which simply means your money makes you more money. It also means you do not have to spend any more of your time, you just have to put your money to work.
The investor quadrant is the perfect example of passive income. If you are somebody who goes out there, invests in dividend stocks and has a dividend reinvestment then you never have to look at that every quarter. The dividends that are paid by those stocks are going to be reinvested back into the stock and without you doing anything. You just sit back and let your money grow over time. The best part about strategy is its scalability because you can add more money to it and grow indefinitely. This is also variable risk, for somebody who wants a low risk investment you can look at bonds and for someone who wants a high risk investment you can go start flipping real estate. There is something out there for everyone when it comes to investing based on what your risk tolerance is. You could easily find some really high-risk investments out there or find some very low-risk investments but you need to be in multiple quadrants to make it all work.
To wrap it all up, if you are just in the employee quadrant and you simply sit there unless you go for the defensive approach you are always going to live paycheck to paycheck. If you are looking to start your way to break out from living paycheck to paycheck then I would recommend starting with the defensive approach by getting control of your spending and slowly move to more offensive strategies. I hope that Robert Kiyosaki's cashflow quadrant resonates with you and sparks your mind so you will start looking for opportunities to maybe start a side hustle, start investing or even start a business. You have to be offensive otherwise you are going to be stuck living paycheck to paycheck.
