How the Wealthy Manage their Money
What Scrooge Can Teach Us
Becoming more frugal with our money management is suddenly highly relevant to a lot of people as the world spins into economic chaos at the time of writing, in 2012. While I’m not advocating that we all become total penny-pinching tightwads like Dickens’ Scrooge, the truth is that a lot of us would be a lot better off in the long run if we learned a few simple lessons from our parsimonious, thrifty and generally more prudent peers and became a bit more canny and careful with our money.
While governments and businesses constantly exhort us all to spend to keep the economy going, the fact is that it is not their money we’re being asked to spend, but our own. And when we start spending on credit, despite short-term appearances to the contrary, in the long run it actually spells economic doom for ourselves and for the economy as a whole. Anyway, debt interest payments are like pouring our money down the drain.
How do the wealthy look after their money? By “wealthy” I am talking about the typical self-made millionaire. Often these will be small business people who started with nothing or very little, but have managed over time to build up a solid Net Worth. Sometimes they will be ordinary working men and women who have carefully saved money over many years. You hear stories of people like this every now and then: somebody dies and only then is it discovered that they had squirreled away $500,000 on a policeman’s wage or something. How do they manage it?
Of course, we tend to think of words like tightwad, Scrooge, penny-pinching and so on as being a bit negative - but in reality such people are just being sensible. Why spend more than you have to and make others rich while impoverishing yourself? Their methods are in fact pretty simple.
- Be a tightwad! Live the frugal life. In other words, always live well below your means. Don’t just live within your means - make sure there is a good solid margin on your side of the scale, always. Every month should end with a large surplus of unspent income. Yes, this means going without the rubbish you normally buy that you don’t need. For the most part, once you get used to living this way, you won’t miss it - and if you do, there are usually cheaper alternatives. It also means penny-pinching generally. But that’s not so bad: a penny spent is a penny wasted, taken away from your future wealth forever.
- Save like crazy! Make it your new hobby. Top savers put aside at least $15 for every $100 gross (before tax) that they earn. So someone who makes say $5000 a month, pays maybe $2000 in taxes and so takes home $3000, still saves a minimum of 5 x $150 or $750 a month, minimum. They don’t care about how much the tax is - they calculate it based on the whole amount anyway. They think of tax as forced expenditure - like rent or similar. You have to spend it to live in this country, but it shouldn’t stop you saving. Instead they cut back on their discretionary spending. They don’t need 45 pairs of shoes, 4 new suits a year, a brand new luxury car every three years (or at all), 15 pints of beer a week (maybe just a couple instead), etc., etc. All that rubbish is lining up a place for you in the queue for the soup kitchen when the economy, or your economy, hits the buffers. Saving like this, based on your gross income, is sometimes called “Paying Yourself First.” When you get the money, you stash that 15% ($15 per $100 earned) straight into savings and don’t touch it, ever, except to move it into better savings vehicles, perhaps. If you can’t manage 15% maybe try 10% or even 5% to begin with. But whatever you do, begin. If you are paying interest on debts (other than a mortgage), use the money to pay down the debts rather than saving it, because you will lose more in interest on the debt than you will gain in interest by saving. If you are not paying interest on any debts other than a mortgage, then save the money. If you want to pay down your mortgage faster, then maybe get some specialist advice: it depends on the terms of your loan whether this will work out better for you or not. Also sometimes it is best to make a single lump-sum payment on a mortgage at a particular time of year, rather than spread over the year, depending on how and when the mortgage company compounds your interest. This is all pretty complex and beyond the scope of this article.
- Measure your wealth according to your “Net Worth” and not according to your income. It isn’t what you earn that makes you wealthy: it’s what you keep. Your Net Worth is a measure of your true wealth. It is calculated simply by subtracting your liabilities away from your assets and seeing what’s left. Your liabilities are your outstanding debts, mortgages, car loans and so on. Your assets are your savings, the value of your investments, the value of your home, the resale value of your possessions, and so on. Net Worth = Assets minus Liabilities. It’s that simple. It can be negative but the idea is to make it into a large positive number!
- Teach your children to make their own money. This means that they are not constantly “borrowing” from you. It also means that you do not give them financial gifts (except maybe once at age 18 or 21 or something like that) and you do not give them financial first-aid. Studies show that the children of wealthy people who are taught financial independence do better financially on average than those that are propped up or ‘helped’ by their parents. And it is not apparently the case that those that get help are being helped because they need it more - instead, those that get helped become more needy as they fail to learn how to look after their finances properly themselves. Sometimes, though, the parents of these needy children have bought houses for them that are too expensive for their children to support, in areas that are above their children’s means: future financial first aid is built-in to these kinds of gifts and they should be avoided at all costs if you want your children to be financially independent. Often also, parents who made their own money from some ordinary-seeming business venture expect their children to have ‘prestigious’ jobs like lawyer, doctor, etc., and forget how they made their own money. Lawyers, doctors and so on are seldom very wealthy in Net Worth terms. They often earn a lot, but they also tend to spend a lot in order to keep up appearances for the sake of their professional credibility. It can be done, of course, but they have to be very conscious of how they’re living and what their financial priorities are.