Can savings make you financially independent?

Kiran TelangCan you read a book without knowing the alphabet? The answer is obviously no. Like knowing the alphabet is the first step to reading, saving is the first step to financial independence. Learning the alphabet alone will not suffice, you will have to study further to be able to read a book. Likewise, there are several other things you will need to do to achieve financial independence. One step at a time and you will reach there.It is strange that we were given the key to wealth creation while we were in school, but we forget to use it in our adult life. The formula for compound interest is the real formula that will lead you to financial independence. In its simplest form the formula is stated as below: A =p *(1+r)n Here ‘A’ represents the goal amount, ‘p’ represents the amount that you will invest, ‘r’ is the rate of return and ‘n’ is the number of years. You control ‘p’ and ‘n’ i.e. how much can you save and for how long. The rate of return on various products, ‘r’ is beyond your control. So how do you make this formula work for your financial freedom?Your first friend in this formula is ‘n’, that is time. The simplest way to increase the ‘n’ factor, is by starting savings as early as possible. Even if you are in your first job, start saving. If you have lost a few years without saving, do not delay further, start today! The more you delay, the more you lose out on the power of compounding which is your biggest ally in this path to financial independence.Your second friend is ‘p’. You need to increase your savings. ‘But I don’t have anything to spare!’, is the first thought. So figure out where you spend. Is all your spending based on need? Or as someone has said, are you ‘spending your future income to buy things that you do not need to impress people you do not like!’ Understand your needs and wants. A mobile phone can be a need, but a high end smart-phone can be a want. A house is a need but a second house is a want. Clothes are a need, but designer clothes are a want. You should aim to spend on all needs and some wants. But if you end up spending today on all needs and all wants, you will have nothing left in the end to save for your future.While ‘r’ is not in your control, you do need to understand the broader parameters of the estimated returns on various products. Debt products like fixed deposits, recurring deposits, PPF, EPF have a lower range of returns, generally below 10% and may vary from time to time. Debt products also have fixed returns which are usually known upfront, though some like debt mutual funds have no pre-defined returns. Equity related products like equity mutual funds or stocks provide higher returns usually in the range of 12-15% or more, though nothing is pre-defined or guaranteed.Depending on how far your goal is and how much risk (volatility) you are comfortable with, you can decide on where to invest. Look at the table below to see how available time, asset class and rates of return can change the amount required to be invested.All numbers in rupeesUse the earn, save, spend formula. Start with saving at least 10% of your income every month. Go as high as you can with this saving amount. As you increase your savings, your time to reach your goal will reduce. Merely saving is not going to help. You need to direct these savings to appropriate investments which will help you achieve your ultimate aim. Any investment that is not aligned to your goals should be avoided and eliminated. To bring discipline in your investments, try and automate the monthly savings and investments. This will leave you with no reason to procrastinate and lose out on valuable time thinking where and when to invest. One of the easiest way to do this is use the systematic investment plans (SIPs) of mutual funds. They will not only automate the whole process, but also provide you a wide range of asset classes to invest in, ranging from debt, equity, gold and varying combinations of each of these. You can select as per your requirements and get started very quickly.This is the investment part of financial independence programme. There are some other factors that need to be built in to increase the possibility of success of your goal. The most important is creating a proper protection strategy by buying correct insurance plans for health, life and assets like home.Start creating your plan. Implement it one step at a time. You will achieve your financial freedom.