6 Key Principles For Building Wealth
Do you understand how money works?
We buy stuff and we sell stuff using money. It seems pretty simple, right?
If money is so simple, why do the bottom 50% of Americans have a combined negative net worth?!
If you’re not entirely sure what your own net worth is, you’re going to want to continue reading.
What I’m going to breakdown here are the 6 key principles you need to learn to maximize your net worth (also known as getting richer).
6 Key Principles for Building Wealth
1. Understanding the Purpose of Money
Eating a dollar bill won’t do you any good.
The only reason you want money is because you trust somebody else will value that piece of paper as much as you do when you want to purchase something.
At the end of the day, money represents and measures value.
The difference between the rich and the poor is the ability to build value (wealth).
If the point is to build as much value as possible, how should we invest our time? Better yet – how should we invest (spend) our money?
2. Identifying Common Money Pitfalls
Let’s face it – money’s been around for a while and businesses have mastered the art of convincing you to give it to them.
What you need to recognize is that you’re part of a large system that’s built on generating a profit.
How do you beat the system? By making a profit for yourself!
Here are the common money pitfalls that help explain why America’s financial situation is so poor.
We’re programmed to consume, not build wealth
Ever heard of consumerism?
It’s that voice inside your head telling you to buy clothes even though you went shopping last weekend.
It’s browsing Amazon with no particular goal in mind.
Consumerism is impulse purchases, buying unnecessary goods, glorifying material things, and “keeping up with the Jones’s”.
Consumerism is the single biggest hindrance to your financial independence.
We don’t talk about money
Have you noticed how lots of non-wealthy people have negative views towards wealth?
“Money isn’t everything,” they say. “Don’t be shallow”. And here’s the best one: “rich people are jerks!”
The strange part is that most people would love to be wealthy. I’ve never seen anyone ask their boss for less money.
So why do we act like it’s a bad thing to openly discuss money or put too much daily emphasis on it?
Don’t make financial mistakes out of ignorance. Talking about money is one of the best ways to bounce ideas off others and get wealth-building insights.
We’re not taught how money works
A major misconception that holds people back from achieving their financial potential is the idea they need to trade their time for money.
We’re taught to go to school, get a job, work hard, and eventually we’ll become rich, right? Isn’t that the American dream?
The problem is that an increased salary does you no good if you increase your expenses at the same rate.
If you don’t spend your money on things that hold value, increase in value, or generate income, you’re not building wealth.
Another major oversight is dismissing the importance of interest.
If you use interest to your advantage, you’re sure to grow your wealth. If you let yourself be a victim of it, you’ll be fighting uphill your entire life.
Student loans, credit cards, and car loans are all tied to interest rates. If you’re not careful, large balances can cripple your finances for decades.
3. Knowing How Money Grows
Building wealth is less about how much money you earn than how much money you keep.
Remember when I mentioned net worth earlier? It’s the fundamental key to building wealth.
Net Worth = Total Assets – Total Liabilities
An asset is anything that you own which maintains value and can bring you future cash flow.
A liability is anything that takes money out of your pocket.
When you look at your expenses, are you acquiring assets or liabilities?
Do you own anything that’s helping you make more money?
4. Realizing Financial Independence is Possible
Financial independence has become a popular buzzword these days.
People define it differently, but when I think of financial independence, I imagine living off the income from my assets without needing to work.
Here’s how you can make that happen:
- Track your net worth
- Maximize your income
- Minimize your liabilities
- Make your money work for you (investments, businesses, etc.)
When you understand the dynamics at play that can help you become financially independent, you take a huge step towards achieving that goal.
5. Minimizing Liabilities
Liabilities are bad; they’re a negative influence on your bank account.
Some common liabilities are:
- Rent/heating/electric/utilities
- Food expenses
- Student loans
- Insurance costs
- Mortgage payments
Liabilities are the reason why you work so hard and don’t feel any richer for it.
They give you short-term satisfaction but keep you from reaching your long-term goals.
That’s why it’s incredibly important to create your own budget. A great budget helps keep your liabilities in check, so you can spend your money on more assets.
Want to know the worst type of liability? That, my friend, is debt.
Debt
Debt is money that you owe to another party, often paid back over time with interest.
The total debt amount is made up of principal (original amount of the loan) plus interest.
Not all debts are created equal, however.
Good debt is debt that someone else is paying for on your behalf, like a rental property.
Fair debt is debt that can create future assets and/or have tax advantages. Examples of this include student loan debt, a mortgage, or a business loan.
Bad debt is consumer debt. It has no value and typically comes with high interest rates. Take credit cards or car loans for example.
To successfully navigate adulthood, you’ll need to fully understand these types of liabilities:
- Credit cards
- Taxes
- Student loans
6. Maximizing Assets
Your wealth is dependent upon what you do with your money.
Poor people tend to spend their money on liabilities, while rich people invest in assets.
When you purchase an asset with the goal of increasing your future income, you’re investing. Here are some of the benefits of investing:
- Earn money while sleeping
- Protect against inflation
- Better returns than a savings account
- Tax advantages
Here are some different types of investments:
- Stocks
- Index funds
- Mutual funds
- Exchange Traded Funds (ETFs)
- Bonds
- Certificates of Deposits (CDs)
- Real Estate
- And more!
Investing your money always comes with the risk of losing it.
Still, it’s an incredibly powerful tool for making your money grow.
Note: This article originally appeared at Home at 30.
Category: Personal Finance
