Buy assets first, luxuries and liabilities later.
You’ve probably heard it on the news or overheard it in a conversation. The wealthy always seem to get wealthier. I’m not talking about the uber-wealthy here. I’m talking about the people that somehow manage to build their own little fortunes, in spite of earning an income no greater than yours or mine.
Have you ever thought to ask yourself why? How are they doing it? They’re earning roughly the same as you or I yet somehow, year after year they’re increasing their wealth. They’re able to travel to exotic destinations and buy whatever they want. Every. Single. Year.
There’s something that that these people do that allows them to keep building their wealth.
They buy assets first, luxuries and liabilities later.
How do they do it specifically, it all begins with how they manage their cash flow.
The name’s flow, cash flow.
I can bore you with the accounting definition about the net difference between how much cash a business is earning in a certain yadda yadda. But I’d prefer to stick to something a little more useful. Cash flow is how much cash you have coming into your pocket minus how much money you have going out.
Cash flow positive = More money in than money out. = Happy you = ☺
Cash flow negative = More money out than in. = Unhappy you = ☹
Being cash flow positive is where it’s at.
So why is this relevant? Being cash flow positive is a good indicator of a business’s financial health and it’s a good indicator of your financial health as well. It means that you have enough money to sustain your current lifestyle and then some. Being cash flow positive means you still have a few dollars left over at the end of every month, you’re not living hand-to-mouth. Having those few extra dollars each month can be the difference between becoming wealthy or treading dark financial waters.
Cash flow negative is not a state you want to be visiting. It means that you are spending more than what you are earning. Being cash flow negative SUCKS. It makes it difficult to save or invest and puts serious financial strain on your ability to build wealth.
So how do the wealthy keep building their empires? They stay cash flow positive of course. They have more money coming in than going out and they like to keep it that way. This gives them the freedom to do what they want, when they want and with whom they want.
The second part of the equation is the most important part, how do the wealthy stay cash flow positive.
The wealthy buy assets…and create more cash flow.
The wealthy use the money they’ve saved to buy assets. Why?
Each time they buy more assets they are able to generate additional cash flow.
With additional cash flow they can buy more assets.
More assets = greater wealth.
But wait I have assets?
Yeah I thought so too.
Again, I’m going to deviate from the boring definition here and give you the answer that’s a little more useful. Forget everything you know.
An asset is something that puts money in your pocket or increases in value.
A liability is something that takes money out of your pocket or decreases in value.
Let that sink in for a while. This definition is not likely to be the one that you find in the dictionary but it’s likely to be the one most likely to keep you from going broke.
“Your house is not an asset”
The video below might be a little bit old but it’s still a great insight as to how this works. It features none other than true money master mentioned above, Mr Robert Kiyosaki.
Let’s look at an easy example to bring it all together.
Bob works at the local gas station and is able to save $200 a week after expenses. Instead of spending the savings on luxuries and liabilities, he buys stocks. He keeps buying stocks with his left over cash each week throughout the year. The total amount he invests over the course of the year is $10,400 ($200 x 52). At the end of Year 1 Bob receives dividends from the shares equal to 7% of the value of his portfolio. In total Bob receives dividends of $728 in Year 1 (7% x $10,400).
Over the course of Year 2 he invests another $10,400 plus the $728. At the end of Year 2, Bob again receives dividends equal to 7% of the value of his portfolio. As Bob had invested $10,400 in Year 1 and Year 2 plus the $728 in dividends, he receives a total of $1,507.
Bob keeps buying stocks each year and every year the amount of dividends he receives increases, because he is buying assets. His wealth keeps increasing because his assets continue to put money into his pocket, which he then in turn uses to buy more assets.
If Bob were buying luxuries and liabilities instead of assets he would be forgoing dividends each year plus any future dividends he might make from his stock portfolio. It creates a drag on his wealth building ability. Instead of being able to build his wealth rapidly, liabilities and junk just make it harder and harder. Instead of putting money into your pocket they consistently make it harder to build wealth.
Your car is a great example of this, unless you’re putting it to work by driving for Lyft or Uber then chances are it’s costing you money. It’s a liability. Yes it has value, but its value is decreasing and it’s costing you money to run.
The wealthy become wealthier because they use their money to buy assets. Yes they buy luxuries, but this is only because they can afford them. They buy assets first and use the excess cash flow that they choose not to invest to buy luxuries. Take a long hard look at what you own and buy. Are you buying assets?