Volume 2, Issue 9

Financial Life Cycle Revisited

In totality, the FLC has seven steps; Budgeting, Protection, Savings and Debt Reduction, Accumulation, Preservation, Distribution, and Transference. In our last FLC article we closed out the Savings and Debt Reduction Phase, but we will now begin discussing how to obtain wealth in the Accumulation Phase.

Introduction

Asset accumulation is one of the most challenging subjects to tackle given the countless ways to make and spend money. The mere mention of money will make the eyebrows of a 13 year old child raise to the peaks of Mount Everest. This occurs when they think about how they will spend their allowance and savings to purchase the latest video game! There are many ways to obtain wealth and this article will not capture all of them, but present the most prevalent ones. In addition, it will dispel many financial myths and provide a roadmap that will begin to help you get where you want to be in the future.

Wealth De-mystified

Wealth is defined as the financial and non-financial assets you own outright! If there is a lien or loan on your asset it is “really” not considered wealth. An asset can be tangible (eg. real estate) or intangible (eg. stock). A non-financial asset is considered a tangible asset because it is something you can physically touch. On the other hand, a financial asset is considered an intangible asset because it is something you cannot physically touch. You may think income is a financial asset because it is something financial. But, do not confuse wealth with income. You cannot own income! Remember, wealth is a collection of assets you own outright! Income is something that is not owned it is something you receive. You can own a business or even a job. Income can lead to a lot of wealth, but it is “not” wealth in the purest sense. Income however, can be used to purchase assets you hope will increase in value. As a result, wealth is produced from the value of your assets. Another way to differentiate wealth from income is to ask yourself, “what is the source of my income?” If your income is produced through an employer, someone you work for, then it is just that, income. However, if the source of your income is produced from your assets then you have wealth. There is one of two main ways where one can attempt to procure wealth in their life time through assets. First, establishing one’s own successful business where they are the majority owner (ie. entrepreneur) of the company and secondly, investing in another successful business. The latter is accomplished by being either a majority or minority owner (ie. investor) of the company. Wall Street and most American investors essentially function in this way. Wall Street is nothing more than a group of majority and minority owners hoping to discover the next big thing! As a result, these owners buy stocks of companies where they now own part of the company.

Assets to Income

When an asset creates income it is known as residual income. Residual income are monies received that you did not “directly” work for. For example, if you did not work one hour next year, how much income would you have for the year? If the answer is none, well you get the point. There are many ways that an asset can create income. For example, if you own profitable real estate income can be produced from rent that is collected from tenants. Intangible asset like stocks can create income through dividends and capital gains. Dividends are monies voluntarily given by the company to its stock holders each consecutive year the stock is held. Capital gains are the monies received by the stock holder when they sell their shares back to the company. You may have heard of the common phrase, “buy low sell high”. Buying low is where you purchase the stock when no one else knows about it or when everyone else is selling. Selling high is when everyone else knows about the great company you invested in and realize the company is great. The difference is you bought part of the company at a significant discount! For example, if you bought Microsoft when no one knew it was a great company you would have at least $10 million in assets today! We will delve deeper in asset accumulation in our next article, so please re-read this article as many times as needed. Building foundational knowledge is very important for financial literacy. Know the FACTS!