Saturday, November 21, 2020

One more time: The difference between rich and poor

There are numerous posts on this blog, and millions on other blogs and news sites, on the subject of what the rich do different, but it's worth repeating again, I guess. The principles are simple. Still, some two-thirds of Americans live paycheck to paycheck. For many, the act of using all of your monthly income to cover your monthly expenses — with no money left over and none for savings — is a fact of life.

Look, I've been there. It can be a mindset, and a trap. Best to get out of it if you're in it, as fast as possible. 

Depending on the survey, the percentage of people living paycheck to paycheck runs from half of workers making under $50,000 (according to Nielsen data) to 74% of all employees (per recent reports from both the American Payroll Association and the National Endowment for Financial Education.) And almost three in 10 adults have no emergency savings at all, according to Bankrate’s latest Financial Security Index.

Even many in the upper class are seeing their six-figure incomes slip through their fingers. The Nielsen study found that one in four families making $150,000 a year or more are living paycheck-to-paycheck, while one in three earning between $50,000 and $100,000 also depend on their next check to keep their heads above water.

What is going on? I keep reading about stagnant wages, about how a lot of people haven't gotten pay raises. Yea, so blame the other guy. Don't take personal responsibility. And let money rule your life, rather than you being in charge. I'm not buying this excuse. 

Another reason is financial illiteracy. Seems people are too ignorant to make good financial decisions. While you can blame the "system," again, personal responsibility should be number one. There is no excuse in today's world for being financially illiterate. The knowledge is there. However, if our schools -- especially high school and college -- would provide basic education, this would go along way to reducing what I call generational poverty. 

The other large factor is behavior. While some of this can be taught, it really is -- again! -- personal responsibility. Unfortunately, our education system does not provide this insight to young people. Many -- if not most -- are indoctrinated with the victim mindset, a sense of entitlement. This is just stupid. It causes people living in the richest nation in the history of the world to be scrapping by -- paycheck to paycheck. Sad. 

The University of Oklahoma (where I was lucky enough to have attended their graduation school of communications) offers a course for students. Part 1 (18:38) and Part 2 (18:29)

But let's repeat the factors and behaviors that rich people have and do the weigh the odds in their favor: 

1. They avoid debt

This may seem obvious, but dodging any debt is certainly a habit that can help your overall financial picture. Outside of the mortgages on their home, Daugs says that his clients make sure to reduce and eliminate all debt.

If you want to build wealth, you cannot waste money on paying interest on consumer credit, such as credit cards and even car loans. 

Because most credit cards charge notoriously high interest whenever you carry a balance, prioritize paying these balances off in full every month (and on time to keep a good credit score). Only charge what you know you can pay off and avoid store credit cards in general. (They are known for having low credit limits, high interest rates and limited usability.)

2. They have an emergency fund

This could be the number one killer of financial security: not having an emergency fund. Having a solid reserve of cash that you can tap into in an emergency goes a long way. If you have an unexpected expense, such as an urgent car repair or medical bills, a rainy-day fund that is immediately available for withdrawals can help you afford it. This way, you don’t need to charge the expense onto a high-interest credit card or take out a personal loan.

Start with anything, even if it's only $1,000. But build it as quickly as you can until you have at least three months' living expenses. Most wealthy people have between six and 12 months. 

I have 10 and never worry about expenses, even if I had to buy a car. Speaking of cars, see the next item. 

3. They buy their cars, and plan to keep them long-term

For the most part, cars depreciate in value the second you drive one off the lot.

Self-made millionaires typically buy, instead of lease, any new car with plans to hold onto it for a while. By keeping their cars long-term, they can use the time between car purchases to save up cash that would otherwise go towards a monthly payment.

If you need to finance the car, pay it off as soon as you can and plan to keep the car long after that loan is paid off. 

The last car I financed was a 2004 Buick, in 2005. Once it was paid off (early) I put the payment in a bank account. When it was time to replace the car in 2018, I bought a low-mileage certified 2016 Chevy Impala and paid cash. Only way to go. And yes, I kept the Buick for 13 years. 

4. They invest

Once an emergency fund is in place, it's important to have an investment plan, whether in stocks, bonds, mutual funds or exchange traded funds (ETFs).

As a general rule of thumb, you should save at least roughly 20% of your income each month. This 20% goes toward your savings plans, emergency fund, retirement and investments. How much you take out of your paycheck to invest depends heavily on your income and investment goals, but getting used to living without that 20% is a good start for both your savings and you investments.

Automatic savings plans, from paycheck to an investment account is an excellent way of automating savings. The top line of your budget should be for this category -- savings and investments -- rather than it being the bottom line, or something you do after all other categories. 

5. They take advantage of everything their employer has to offer

It’s worth looking over your employer’s benefit plans thoroughly. Companies offer more than just retirement plans that can help you save money and even invest to earn more.

Leveraging some of the below benefits can be helpful:

Employer retirement match: If you can afford to do so, make sure you are contributing enough to match any employer contributions. “The match is basically ‘free’ money to you,” Daugs says.

Employer life or disability insurance: Your employer’s group plans can offer significant savings versus buying these insurance policies individually.

Employer Health Savings Account (HSA): If you qualify for a HSA, some employers will match your contributions up to a certain amount. Your contributions are tax-deferred.

Employer legal services: See if your employer plan offers legal services. If you ever need to have estate planning documents prepared, such as wills or trusts, you can save money in attorney fees if you use the legal services offered in your benefits plan.

Employee Stock Purchase Plans (ESPP): If your employer offers ESPP, you can typically put up to a certain percentage of your pay into this plan that then allows you to purchase the company stock at a discount to the market price. If you feel good about your company and their stock, this can be another cost-effective way of investing to continue to build your net worth.

6. They don't try to keep up with the Joneses

Keeping up with “the Joneses” is a typical way people dig themselves into debt. But living beyond your means time and time again eventually catches up to you.

When building wealth, fight the need to have the latest and greatest gadgets. So much money is wasted on constant ‘upgrades’ these days and can cost you both money and lost opportunity.

It’s only human to want to compare your life to others, but take another look at your lifestyle and budget, focusing on what’s most important for your own personal goals. These are your needs and wants that truly matter to your bottom line and happiness.

7. They use budgets

This is probably basic to any financial plan. Here's five simple steps to create a good budget: 
  1. Determine your income. Start with how much money you make after tax each month.
  2. Calculate Expenses. Let's break up your monthly spend into specific buckets
  3. Calculate the difference. If your expenses are already greater than your savings, you have 2 options
  4. Determine what to do with your savings.
  5. Make it a habit.
Here's another guide to budgeting. I really can't stress this enough. Most people who are having financial problems probably don't use a budget, at least in my experience. The first question I ask people is "Do you have a budget?" and the answer is usually no. Don't be one of these people. 

Bottom line

There are a lot of moving pieces to having a solid financial plan. Embracing opportunities to pay off debt, save, invest and learn, all while avoiding potential pitfalls, make a big difference on your ability to build your wealth.

Self-made millionaires started by reducing their debts to increase cash flow and build their ‘rainy day fund,’ Once these were in place, they were then able to incorporate the other investment habits and really grow their assets.

No matter how simple or obvious a money habit may be, the point is that you stick to it. Discipline is key and with it you can build the financial future you desire.

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