Redefining Financial Wealth

September 9, 2011 | Daily Capital

I often come across people worth millions of dollars who, believe it or not, I think are financially poor. On the other hand, I also come across people worth a more modest few hundred thousand dollars who I consider filthy rich. Confused? Maybe you won’t be once I tell you how I define financial wealth, as well as how you can dramatically increase your wealth nearly instantaneously.

When I ask people to tell me what money means to them, I tend to get very similar answers – freedom and security. Money is essentially stored energy that allows us to do whatever it is that gives our lives meaning or allows us to enjoy life to the fullest. On one end of the spectrum, that might mean taking the private jet around the globe and staying at the most luxurious resorts. On the opposite end, it may suggest a lifestyle that involves hiking and spending time with the grandkids, requiring very little money.

In the examples above, it’s easy to understand how the Jetsetter who is worth $5 million could run out of money in a couple of years with such a choice of lifestyle. While the person choosing the more frugal lifestyle path may be financially independent with only a modest portfolio and some social security.

Financial wealth is how much freedom you’ve earned

So I think a much better definition of financial wealth is how many years of financial freedom you’ve saved up. For example, if you’ve saved $600,000 and live on $40,000 a year, you’ve got a 15-year nest egg. If you spend $100,000 annually, you’ve only got six years of financial freedom. In both cases, you have to earn enough to pay taxes and keep up with inflation in order to keep your lifestyle constant in real, post inflation terms.

A much better definition of financial wealth is how many years of financial freedom you’ve saved up.
The implications for wealth creation are enormous. Increasing your earnings will certainly help you build wealth over time. Yet a far more effective and immediate way of building wealth is to cut your expenditures. Every dollar you don’t spend each year has a multiplier effect on the years of financial freedom you’ve saved up. Put another way, cutting your expenditures by 20% will have an immediate impact on your wealth as measured in years. Earning an extra 20%, on the other hand, will take a longer time before it buys you 20% more years, especially after you pay taxes on that extra income.

We say it all the time but research really does show money doesn’t buy happiness. In actuality, spending money actually only creates short-term happiness. Sure, we might love that new luxury car at first, but with a little time passing, and the first ding on the door, it seems we quickly get used to it.

Research also shows that we can adjust very quickly to a new and more modest lifestyle as well. We can be virtually as happy spending less money. And many people get happiness just from knowing they can do whatever they want for the rest of their lives while their neighbors are stressed from paying the bills and working at jobs they hate.

My advice

Consider getting off that hedonic treadmill of keeping up with the Joneses, and you will find the true liberation that comes from separating who you are from what you own. There are simple things you can do to dramatically increase your wealth while giving up very little. Just driving a moderately priced car for ten years, for instance, can build years of wealth.

Money truly is stored energy and you must decide how much energy you need to store to power the financially independent life you would like to lead.

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