There is a lot of interest in learning how to downsize these days. That’s because one of the best ways to have personal freedom is to have a smaller spending footprint. When you spend less you don’t have to earn as much. When you don’t have to earn as much you have more free time. Cool beans.
Don’t get me wrong. Earning more is great and I’m all for it. But sometimes building wealth can entrap you. That’s why shrinking your cost of living is one of the most liberating things you can do for yourself. Here are 7 steps that can deliver that freedom in a little more than two months.
Day 1 – Commit
You are likely very fired up right now but there will be times ahead when you’ll lose some of your steam. That’s why you need to write down what you want your life to look like in the years ahead. What are your goals?
- Do you want to travel?
- Do you want to eliminate financial stress?
- Do you want to make work optional?
What exactly are your financial aspirations and why do you have them? Write all this down and keep this note handy. You’ll want to refer to your “Freedom Manifesto” often.
One easy way to reduce your cost of living and save time is to look at how you bank. If you want to get rid of most banking fees and start earning interest on your checking account, consider using online EverBank. I love these guys because their service is great, almost everything is free and they have a high interest rate guarantee. I think you’ll learn to love EverBank too.
Day 2 – Day 4 – Research Income
In order to downsize effectively, you need to figure out how much life you can afford. First get clear on how much income you can count on. Then we’ll figure out how to live within those boundaries.
When it comes to forecasting income, most people do a pretty good job. It’s easy to figure out how much you’ll earn from working and for how long. Likewise, it’s easy to determine what your pension and Social Security income is going to be. But there are two areas where many people get tripped up.
First, if you have real estate that you plan on renting to others, make sure you understand what it really costs to own your home before you calculate how much the property will generate for you. Let’s say you have no mortgage on your home and you are going to rent it out for $1,500 a month. You still have expenses associated with your home like insurance, taxes, repairs and maintenance to account for. Make sure to deduct those expenses from that $1,500 please. If you go through this exercise you just might decide that the best way to take a big chunk out of your expenses is to sell your home and invest the proceeds rather than rent it out.
The second mistake downsizers make is when it comes to portfolio income. Calculate how much net income you can derive from your savings, investments and retirement accounts. This is a subject in and of itself and I recommend you read a few of the posts I’ve written on how to generate income from your investments in order to learn more.
Day 5 – Day 7 Understand How Much You Currently Spend
If you track your spending using a software package this is a snap. Simply run a budget report over the last 12 months and figure out what your average monthly cost of living is.
If you don’t track your spending or your tracking isn’t complete don’t worry. Use my “5 Minute a Month” method to figure out what you spend on average each month. All you really need is your last 12 monthly banking statements to zero in on what you spend. Once you have those statements it will take you a maximum of 30 minutes to figure out your average spending number. Easy.
It is critically important to know what you spend on average each month if you want to downsize your financial life. Please don’t go any further until you’ve nailed this number.
Day 8 through Day 15 – Cut it Out
Let’s say you calculated that once you downsize, you’re after-tax income is going to be $3,500 a month. Let’s also assume that you determined that your current burn rate is $5,500 a month. Now comes the fun part.
If you have been tracking your spending, run a report that shows how much you spent and where you spent it for the last 12 months. In our example above, you need to find $24,000 in annual cuts.
If you don’t track your spending, go through your credit card statements and checking account statements month by month. Highlight expenses that you are willing to cut and keep going through those statements until you come up with a total of $24,000 in annual savings.
Day 16 through 45 – Smooth Landing
Immediately implement the cuts you came up with during the prior phase. Of course there will be some expenses that you won’t be able to cut right away. There are some costs that you are contractually obligated to continue paying for like car leases, gym memberships, cell phone plans etc. That’s OK. If you’ve targeted some of these expenses to cut, just get out your calendar and jot down a reminder when the contract is up. This way they won’t automatically renew.
Implement whatever cuts you can make as soon as you can make them. Don’t think about it anymore. Just get into action. This is where your freedom starts friend. Every time you cut an expense you are that much closer to your downsizing goal. Rejoice. Celebrate. Keep cutting.
Day 45 – Day 60
Review your most recent credit card and bank statement. Did you cut your spending as much as you thought you could? If not, what do you need to change in order to reach your goal? What is standing in your way?
Day 61 – Day 67 Regroup and Rethink
Making important financial changes is rarely easy. Changing behavior takes time to really nail down. Don’t be upset if you don’t do it perfectly. You’re only human.
Now’s the time to dust off the list you made for yourself in phase 1. Use this to get re-motivated. Remember that you can make your dream come true if you are willing to do the work. Go back through your statements and find more cuts.
If you are serious about downsizing you can make it happen. You must be willing to make the trade-offs and be ready to give in order to achieve the financial freedom you want. Are you willing to do what it takes? When are you going to start?