A lot of people stay on jobs – even if they don’t like them – because they believe that doing so will be the shortest route to financial independence. That can be true in some situations, particularly if you like the work that you do. But you’re more likely to reach financial independence through self-employment than a job.
Having been both an employee and a small business owner, that’s been my experience. I’ve also seen it in the lives of others. In my mortgage and accounting careers, I’ve seen time and again that the self-employed tend to move toward financial independence more quickly and thoroughly than jobholders.
I think there are at least 7 reasons why this is true.
1. No Income Ceiling
Perhaps it has become more acute in the past 15 years or so, but the ability to move up the compensation ladder on a job is probably more restricted than at any time since the Great Depression. Staying with an employer for many years no longer translates into rapid increases in compensation. In many organizations, even the widely revered – and expected – automatic annual pay increase has become a thing of the past.
The same is true of promotions. Many organizations have so “flattened out” (eliminated management levels) that promotions are infrequent, even in more robust fields like IT. And in a world with less upward mobility, the best employees don’t always get the promotion. Favoritism has become more prominent, as well as the likelihood that your employer needs you right where you are right now.
This is not the case with self-employment. As the owner of your business, there is no “muster” to pass, no boss to impress, and no bureaucracy to navigate. Your income can grow commensurate with your skills, desire, and efforts. At least in theory, there is no limit on how high your income can go.
2. Doing What You’re Passionate About Usually Leads to Higher Income
Even if you generally like the field that you are employed in, there are probably many aspects of the job that you are less than excited about. This is because most jobs involve a generous dose of minutia. Let’s face it, most people are hired to do jobs that the people higher up the chain of command don’t want to do. That means that your job may be dominated by doing grunt work that often has little meaning for you.
The point is, when you work for someone else, you’ll most likely be saddled with less than desirable responsibilities. When that happens, you can easily get lost in the details, lose sight of the big picture, and burn out.
But when you’re self-employed, you can focus specifically on the type of work that you are passionate about. And by doing that work, and maybe even enjoying it, there is a much greater likelihood that you will reach your optimal level of performance, and make more money than you ever imagined you could.
3. Career Disruptions are Less Likely
Layoffs have become standard business practice since at least since the early 1980s. Any time an employer has a bad quarter or two, the pressure is on to cut expenses, and that means staff reductions. This can be disruptive to your income stream, causing you to dip into your savings, rather than build them up.
The situation is even more extreme if you become unemployed a long-term basis. Once your unemployment benefits run out, there will be no income stream at all. That’s when not only the emptying of savings takes place, but often the liquidation of major assets, like retirement plans and even the sale of your home. That leads to destruction of long-term wealth.
When you’re self-employed, even though your income may fluctuate, it’s highly unlikely that you will find yourself without any income at all. (The exception of course is when you work in a cyclical business, such as real estate, or the secondary industries that serve it.) A self-employed person can usually keep at least some income flowing in, as well as move into creating new income streams.
That’s possible because a) a self-employed person develops a deep “survival instinct”, and b) because there is no management element restricting his or her actions.
The absence of career disruptions that have become all too frequent with jobs are less likely when you are self-employed. That means that you will be much more likely to preserve long-term wealth, even in a bad economy.
4. Sidestepping the Bureaucracy
One of the things that I learned when I was working for large organizations is that the bureaucracy is an ever-present obstacle to forward motion. For example, when I worked in the mortgage business, the large companies that I worked for lacked the flexibility to get the most popular lending programs. That put us at a competitive disadvantage, compared to industry leaders and independent brokers, who were able to gain access to those profitable programs much more quickly.
I learned a valuable lesson when I transferred to one of those small, independent mortgage brokers: escaping the bureaucracy is one of the best and most profitable events that could happen.
And so it is when you are self-employed. Because you’re working for yourself, there is no bureaucracy to stop you from doing what is most important to your business. You deal direct with customers, clients, suppliers and other vendors, without having to give the bureaucratic devil his due.
That ultimately leads to an easier way to do business and a lot less stress. And that combination translates into a higher income.
Bureaucracy doesn’t provide safety (unless you’re unproductive), but it does limit income potential. Self-employment allows you to escape it, and that leads to better things.
5. More Generous Retirement Plans than Employers Offer
There are retirement plans available to employees, primarily 401(k) and 403(b) programs, but the self-employed have access to plans that allow for even larger contributions, as well as being completely self-directed.
Using this plan you can contribute up to $53,000 per year ($59,000 if you are 50 or older), which is a lot more than you can do with employer sponsored plans. You can contribute up to effectively 20% of your income to the plan, which means that you’d have to earn $215,000 in net income from your business to make the maximum contribution.
(Note: technically, you can contribute 25% of your income to the plan, but under the convoluted formulas used by the IRS, you must first reduce your income by the amount of the contribution, and that works out to 20% for practical purposes. You can read more about it here: Simplified Employee Pension Plan (SEP).)
Solo 401(k) Plans
This may very well be the most generous retirement plan available to anyone anywhere. You can contribute up to $53,000 per year ($59,000 if you are 50 or older) and do so on a lower income than most other plans.
For example, you are able to make a maximum contribution of $18,000 per year as an employee of your business – got that? But you can also contribute 25% of the total net income from your business. Under the plan, the business owner is both employer and employee, and can contribute based on both.
With a total net income of $140,000, the business owner can contribute $18,000 as an employee, plus 25% of the net profit – $35,000 – for a total annual contribution of $53,000. That means that nearly 40% of net income is contributed to the plan in one year.
With contributions that high, you’d build a fat retirement plan in just a few short years. This is an obvious major benefit to anyone who is close to retirement but light on retirement savings. But if you are younger, it also holds open the possibility of early retirement – especially when combined with #6 below…
6. A Business can be Sold Generating a Large Windfall
Many – but certainly not all – businesses can be sold for a large amount of money. Though we normally think of this in terms of businesses with substantial physical assets, like buildings and equipment, it’s just as true of cash flow.
Most businesses today sell for some multiple of their gross income. This is because a competitor is looking specifically to purchase your “book of business” – your cash flow. They may, for example, agree to purchase your business or two or three times your annual gross income. In that way, a business that generates a gross income of $100,000 can be sold for $200,000 or even $300,000.
That’s a nice financial windfall to come into after running your business for many years, and perhaps in anticipation of retirement. But that isn’t always a long-term proposition. You may be able to sell your business for a substantial amount of money after running it for just a few years. For example, several bloggers have sold their blogs for seven figures after running them for just a few years.
That kind of windfall is not available at the end of a long career on a traditional job. Employers in certain industries do offer stock options for a limited number of high-level employees. But those are not offered to all employees, especially not in amounts that would make someone rich overnight. And as often as not, stock options become completely worthless.
7. You Never Have to Retire
When I worked in public accounting it was common to see self-employed people continue working throughout their 60s, well into their 70s, and sometimes even into their 80s. Many of these people were collecting the usual retirement benefits – Social Security and income distributions from retirement plans. But they don’t retire because they don’t have to. More importantly, most of them didn’t want to!
The reason is simple: when you build a business from the ground up, it becomes part of who you are. It blends into your life effortlessly, and you have no desire to use retirement as an escape hatch.
But there are also tremendous financial benefits to this. Obviously if you are continuing to earn business income while collecting retirement income, you’re continuing to build wealth. Often that wealth is even passed on to the children and grandchildren. While the retired job holder survives retirement from a monthly Social Security check and a distribution from a 401(k) plan or an IRA, the self-employed person has those income streams as well, but also continuing business income.
It’s not unusual to see self-employed people earning six-figure annual incomes at very late stages of their lives.
As well, a major burden is lifted from the self-employed person, who doesn’t have to obsess on retirement, and adhere to a meticulous retirement plan. It frees you up to concentrate on making more money, rather than hanging your future solely on a benefits package.
Cutting Your Own Path Into Self-Employment
So what does this all mean to you if you are a W2 employee? Am I advocating that you quit your job to become self-employed?
Actually, that’s too risky. In fact, it’s a blind speculation. But there is a way that a job holder can take advantage of many of the benefits that self-employment provides. By developing a side business, you could begin building a business that you are passionate about, and one that can dramatically increase your financial independence.
Just the extra income from a side business can go a long way toward expanding your financial options. It can not only provide you with an extra income for debt reduction and savings and investment, but it can also make you less dependent on your job. That’s a form of financial independence all by itself.
And if you really ramp it up, it can eventually become your primary occupation. There are all kinds of businesses that you can start as side ventures, and later increase to full-time status. I did virtually that with freelance blog writing.
You don’t have to do what I did, but you owe it to yourself to do some serious self-examination to determine what you are passionate about, and how you might be able to monetize it. Millions of people are doing just that, so you know it isn’t impossible.
Trust me, back in the days when I was crunching numbers in a cubicle – 100% dependent on a paycheck from my employer – I never imagined I’d be doing what I’m doing now, and actually enjoying it!
That can be you to – if you start exploring the possibilities. Begin mastering the self-employed mindset and you’ll be surprised at where it takes you.