Regular readers of this space know that financial planning is not a black-and-white process. Advice on how to build wealth really depends on what you consider wealth. Maybe that means having enough savings so that one day you can stop working for money and live off your savings. For another family, wealth may mean accumulating enough money to retire in comfort and then after they pass away to endow a permanent fund to provide scholarships to their favorite university, forever.
Wealth building also depends heavily on your behavior. If you make great choices, your results will be better. If you make rotten choices, you may find that you never accumulate any money. This one reason is why I strongly believe that every family should have a fee-only, fiduciary, financial advisor. And, research shows that clients with a holistic financial plan are more confident in their financial future.
If you would like to talk about your personal wealth building strategy, give me a call. I love to talk about this stuff.
How to Build Wealth from Nothing
Remember your goal with wealth building is:
FIRST – hold on to some of what you earn. Don’s spend every dollar on disposable stuff today.
SECOND – grow your savings faster the rate of inflation. Over the last 100 years inflation has averaged about 3 percent a year. That means things double in cost about every 24 years. So, if you are planning to retire in about 25 years, plan on EVERYTHING to cost twice what it does now.
Five Wealth Building Cornerstones
To get the process started, focus on these five cornerstones.
Get an emergency fund.
Save 6 months of necessary bills, in cash, in a savings account at the bank. This way if you have a car repair, medical bill or home maintenance surprise, you have cash on hand to cover it. No cost. No delay.Pay yourself first.
Target 20 percent of your gross pay for retirement saving. Experts estimate that this savings rate will allow you to accumulate enough savings to live on by the time you want to stop working.Spend less than you make.
After saving for retirement, look at your actual disposal income. Challenge each expense to be sure you are not spending money you don’t need to spend.
Manage risk prudently.
Be sure you have insurance to protect your home, autos, income and health. It’s very cost-effective to use insurance to protect you against common risks. Insurance is a great fit when the Bad Thing is really rare, but the Bad Thing is really catastrophic. For example, it’s not especially likely that a 30-year-old man will die before his three kids all graduate college. But if his family has to get by without his income for 30 years, the damage would be major.Invest your retirement money.
As you save for retirement, it might be 30 years before you need to start spending the money. And even if you are 60 today, you will likely have some of your retirement savings invested for 30 years. Any money you do not plan to spend in the next 5 years, should be invested in stocks not bonds. The long-term average return of the S&P 500 is about 9% a year and 10-year Treasury bonds with coupons reinvested have averaged about 4.6%. This means that retirement money invested in stocks could double as often as every 8 years. Stocks will vary in price often. Typically, one year in four is negative return for the year. But if you hold on through the cycles, you can get the 9 percent average return.
How to Build Generational Wealth
Generational wealth is another idea that is subject to interpretation.
If generational wealth is wealth that I help my kids to build, then here are a couple ideas.
Pay Your Kids and Save the Money to a Roth IRA
As soon as your kids are old enough to do household chores, pay them. Document it and make a Roth IRA deposit equal to their earnings. The Roth IRA will need to be opened by an adult custodian, people younger than 18 can’t sign for brokerage accounts. That custodian can be mother or father and the paperwork is simple.
All of this Roth IRA money will be tax free to your child after age 59.5 AND the DEPOSITS are always free of tax and penalty if you take them out. Here is how it could add up:
- Starting at age 5 and running to age 60.
- Save $50/month, $600/year each year
- Grow the money at historical average stock market return of 9% each year.
- Total account value $723,055.
Make Sure Your New Grad Starts Saving Right Away
New college grad in 2021 (age 23) gets historical average stock market return of 9% each year can expect that at age 60 she will have:
- Saving $100 each month for 37 years = $310,051.
- Saving $323 each month for 37 years = $1,001,465.
Have Grandma Make a One Time Gift to Your New Grad
New college grad in 2021 (age 23) -- $10,000 invested in stock market (historical average return of 9%) can expect the money at age 60 (37 years) to look like this.
- Start with $10,000 end with $242,538
- Start with $41,235 end with $1,000,107.
Or if your new college grad can wait another 10 years -- $10,000 invested in stock market (historical average return of 9%) can expect the money at age 70 (47 years)
- Start with $10,000 end with $574,176
- Start with $17,417 end with $1,000,043.
One-Time Deposit on your 50th Birthday
If you want to have a million dollars for your retirement on your 70th birthday, here is how much you set aside on your 50th birthday (20 years at historical average stock returns of 9%) -- $178,431.
Max-Out Your Roth IRA (Both Spouses) Starting at age 50.
If you start with nothing and make $7,000 Roth IRA deposit for both spouses every year you will have $716,242 the year you turn 70. And it will all be tax-free for you to spend.
Source of S&P 500 stock index historical returns with dividends reinvested since 1871 – 9.192%.
If you would like to discuss the particulars of your wealth building strategy, follow this link to set a time for us to talk. As a CERTIFIED FINANCIAL PLANNER™ professional I am trained to evaluate and understand wealth building strategies and I work as a fiduciary on your behalf. And yes, I’m still taking on a few great families to be part of my financial planning practice.
If this article has you thinking about your own circumstances, contact my office at rdunn@dunncreekadvisors.com. I am always happy to meet with people who are working on their retirement plans. Dunncreek Advisors does not provide legal or tax advice, nor is this article intended to do so.