In previous articles, I described 3 steps to financial freedom. (1) measuring your expenses, (2) cutting them, so you are in profit each month and (3) forecasting your income and expenses, you you gain additional layer of control over your personal finance.
In the second article, I stressed out that taking your profit first it the most important thing which you need to do each month. This article will tell you, what to do with that profit.
Firstly, let me introduce two terms. You may know them, but we need to be 100% sure, that you understand them.
Asset — provides you future economic benefit. In other words, it brings you money. Let’s say that you bought an apartment and you financed it through mortgage with monthly payment 600€. If you rent an apartment for more than 600€, you have an asset. Also, when you pay down whole mortgage, you basically end up with an apartment which generates you 600€ per month and cost you nothing. On the other hand, if you buy an apartment and you live in it, then it is a liability.
Liability — does not provide you future economic value. Car is a great example. You buy it, and it just cost you money. It does not generate any future economic value (there are few exceptions). Usually you just pay for your comfort (because public transport sucks, right?). Fun fact, car is the second biggest liability to most people. Once again, think twice if you really need it at this moment.
Let’s move forward. First thing, which you need to do with your profit, is to pay down all your dept which is connected to your liabilities. (I am at this stage right now.) Credit cards, loans for electronics, loan for car,… If you have a mortgage, this would be the only type of loan which I would not count to this category at first.
As you pay down your loans, one amazing thing is going to happen. Your profit will rise. The reason? You will get rid of those monthly payments connected to loans. So when this step is finished, you will be more profitable than before!
I highly recommend to start with smallest loans first. It is a great feeling when you pay down your first one. It also motivates you to tackle the next one :-)
Are you dept free? Great! Tomorrow I will show you how you can systematically acquire wealth. Until then, thanks for reading! You just invested your time into reading article, which might help you in your life. Be proud on yourself. You are awesome!