Mailbag: How to Know if You're Rich
A Note From the Editorial Director: Alex's column last week urged readers to consider whether you are "rich enough." He suggested asking three questions of yourself to find out: "How much is enough? Will you know it when you get there? And what will you do then?"
Reader James responded with a query to our Mailbag: "How exactly do I determine 'how much is enough'? According to the data I've seen, I qualify as 'rich.' But I sure don't feel rich. How do I know when I'm there?"
As it happens, Alex answered this very question in a column last January. As New Year's goal-setting approaches, now is the perfect time to revisit the question.
- Andrew Snyder
It's a vital question. Who is "rich"? For today's discussion, I'll leave aside the truism that you are rich if you enjoy good health, a loving family, close friends and varied interests. Most people seem to believe that a person's wealth can be determined by his or her income. I would argue that you determine real wealth by looking at a balance sheet, not an income statement.
But why not look at both?
According to the Tax Policy Center, if your annual household income is $107,628, you are in the top 20% of income earners. If your income exceeds $148,687, you are in the top 10%. You are in the top 5% if it is $208,810. And if your household income is $521,411, congratulations. You are in the top 1%... and perhaps demonized by those who view hard work and risk-taking as a matter of good genes and good fortune.
(One of the biggest points of contention in our politics is whether the rich pay their fair share of taxes. Polls show the majority of voters don't believe they do. But here is a fact: IRS figures show that the top 10% of income earners make 43% of all the income and pay 70% of all the taxes. Is that fair?)
In any case, net worth is a far better measure of wealth, in my view. According to the Federal Reserve Survey of Consumer Finances, a net worth of $415,700 puts you in the top 20% of American households. You are in the top 10% if your net worth is $952,200. This jives with the findings of Dr. Thomas J. Stanley - author of The Millionaire Next Door - that one in eight American households has a net worth of $1 million or more.
If your nest egg totals $1,863,800, you are in the top 5%. And - trumpets please - if you have a household net worth of $6,816,200, you are again in the top 1%... and possibly frowned upon by redistributionists who resent folks who live beneath their means, save regularly and handle their financial affairs prudently.
How do you get rich if you aren't currently? The basic formula is pretty simple: Maximize your income (by upgrading your education or job skills). Minimize your outgo (by living beneath your means). Religiously save the difference. (Easier said than done.) And follow proven investment principles. (Which we write about here every day.)
Most millionaires - folks with liquid assets of $1 million or more - are not big spenders. Quite the opposite, in fact.
According to extensive surveys by Dr. Stanley, the most productive accumulators of wealth spend far less than they can afford on homes, cars, clothing, vacations, food, beverages and entertainment.
The wannabes, on the other hand (people with higher-than-average incomes but not much net worth), are merely "aspirational." They buy expensive clothes, top-shelf wines and liquors, luxury cars, powerboats, all kinds of bling, and often more house than they can comfortably afford.
Their problem, in essence, is that they're trying to look rich. This prevents them from ever becoming rich.
It surprises many, but the vast majority of millionaires in the United States:
- Live in a house that costs less than $400,000.
- Are more likely to wear a Timex than a Rolex.
- Generally pay $15 or less for a bottle of wine.
- Have never paid more than $400 for a suit.
- Are more likely to drive a Nissan than a BMW.
- Spend very little on prestige brands and luxury items.
Yes, they're frugal. But they're also happy, not to mention financially free. They are not dependent on their families, their employers or the federal government. What a feeling.
Some can't abide by this important lesson but the bottom line is clear: If you want to be rich, you have to stop acting rich... and start living like a real millionaire.
P.S. Do you have a question for Alex or any of Investment U's contributors? Either leave a comment using the link below or send us an email at firstname.lastname@example.org.