This is part 2 of our blog series on The Road to Financial Freedom. Click here to read part 1, How to Calculate Your Starting Point.
Just like any journey, once you calculate your financial starting point, the next step is to calculate your financial destination. But how do you calculate your financial destination? Here are a few tips below to help guide you on your journey...
How to Calculate Your Financial Destination:
1. PILE Formula PILE is an acronym for Passive Income > Living Expenses. Ideally, you want your passive income to exceed your personal living expenses by 150%. The average person doesn't budget for things like haircuts, Christmas and birthday gifts, oil changes, paying your accountant and other small charges that add up over time. The 150% (or multiplying your monthly living expenses by 1.5) is a buffer to account for all the expenses you may forgot to calculate when totaling your monthly expenses. Once you incorporate all of our suggested formulas into your financial planning and do the math, you will identify your Financial Freedom goal.
If your monthly living expenses are $5,000 a month, and you multiply it by 1.5, then your Financial Freedom goal is $7,500 a month. This goal specifies the amount of passive income needed each month to turn in your resignation letter.
2. Total Unit Goal Now that you know what your Financial Freedom goal is, it's time to see how many units (Total Unit Goal) you need in your portfolio to reach it. On average, you should profit (cash flow) $150 per rental unit. So, if you have a 10-unit apartment building, you should aim to cash flow 10-units multiplied by $150 per unit, which equals $1,500 per month.
Now, divide your Financial Freedom goal by $150. The resulting amount lets you know how many units you should aim to hold in your portfolio. In the above scenario, if your goal is $7,500, and you divide that by the $150 per unit, then you should aim to acquire 50 rental units.
3. Yearly Unit Goal To calculate your Yearly Unit Goal, divide your Total Unit Goal by 5 years. Doing this allows you to break down your goals even further. When you divide your 50 units by 5 years, you know that you need to acquire a minimum of 10 units per year. It's many ways to make this happen. For example, you can buy a single, 10-unit apartment building, or you can buy a 6-unit and a 4-unit apartment building (10 units in total). Just remember that your primary focus should be the amount of cash flow you will be receiving, not the sheer number of units.
Remember, if you need $7,500 a month in passive income, you can obtain this goal by acquiring $1,500 in cash flow per year for 5 years. If your market has a lot of single-family homes with an average cash flow of $250 per unit, this may equate to you having to close to six, single-family homes a year. If you close six, single-family homes a year at $250, you'll only need to have 30 units in your portfolio, not 50. You have to be flexible based on your market. We recommend buying a multi-family property since buying one 10-unit a year should be less burdensome than purchasing six, single-family homes a year.
So far, you've calculated your starting point and your financial destination. Now, you should know how much passive income you need and how many units you will need in your portfolio. Congrats! You've successfully converted your dream of Financial Freedom into an attainable goal!
As you can see, there are a lot of factors when it comes to calculating your financial destination, and the team at 100 Percent Financed is here to help! If you have any questions, or would like any assistance in calculating your financial destination, we invite you tostart with the first chapter of Juan Pablo'sQuit Your Day Jobbook.