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Basic Finance: How to Become Rich

Basic Finance: How to Become Rich

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Everyone wants to get rich, build wealth, and become a millionaire. The good news is 80% of millionaires are first-generation millionaires — meaning they aren’t trust-fund babies. These are people just like you and me that learned to become rich. If you want to be among the 80% of first-generation millionaires, I offer you this one simple IDEA.

Basic Finance: How to Become Rich 1

4 Basic Ingredients Wealth Building:

  1. Income – Earn more
  2. Debts – Pay off your bad debts. Leverage good debts wisely.
  3. Expenses – Spend less.
  4. Assets – Invest you money and build wealth.

You can put them together into 2 groups:

  1. Wealth Builders = Income and Assets
  2. Wealth Bleeders = Expenses and Debts

This boils down to two basic wealth building strategies: (1) increase your Wealth Builders, and (2) decrease your Wealth Bleeders.

Income

This is the money that come into your household and there can be many sources:

  • Your job (as an employee or a self-employed person)
  • Your business
  • Income generated by your Assets (money working for you!)

For a more comprehensive list, see my post about alternate income streams.

Debts

This is everything that you owe to other people. It is important for you to recognize the difference between good debts and bad debts:

  • Good Debts. They give you leverage, for example
    • mortgage – allows you to buy a house without having the full amount. Even with a loan, you’ll still come out well ahead when you buy a house.
    • student loan – allows you to increase your job income. According to Pew Research Center, college grads earn on average $17,500 more than high school grads.
    • business loan – let you grow your business and make it easier to manage your cash flow.
  • Bad Debts. They put you at a disadvantage, for example:
    • credit card debts — these are very expensive and costs you a lot of money if you cannot pay off each month.
    • car loan – buying a depreciating asset like a car is bad to begin with, it get even worse if you take out a loan.

Likewise, good debts can turn bad. For example, if you buy too much house and carry a huge mortgage, or you go to an expensive school studying a major that doesn’t have income potential to pay the student loan.

Here is a post from The Digerati Life that offers good explanation: Good Debt, Bad Debt: The Differences, Illustrated

Expenses

This is the money you spend because of needs (necessities), or wants (discretionary spending).

  • Necessities — e.g., food, shelter, clothing, taxes, transportation, etc.
  • Discretionary Spending — e.g., hobbies, entertainments, luxury items, etc.

Note that necessities can turn into discretionary spending, for example, eating out at an expensive restaurant to satisfy your need for food.

However, some discretionary spending are essential to maintain happy and healthy life; especially for married couples. Just be sure to do it in moderation.

Assets

This is everything you own that has value. There are many types of assets, and their values can appreciate or depreciate. Good assets not only appreciate in value, but also add to your income — usually as interests and dividends. Some examples of assets are:

  • Savings — saving accounts, money market accounts, CDs, etc.
  • Investments — stocks, mutual funds, ETFs, options, etc.
  • Fixed Income Investments — money market mutual funds, bills, notes, bonds, etc.
  • Real Estate
  • Businesses
  • Intangibles — patents, license agreements, intellectual properties, brand names, trademarks, etc.
  • Materials of value — your house, cars, jewelries, collectibles, etc.

For a more comprehensive list, see my post about investment vehicles.

Wealth Building

Once you understand the basic ingredients, building wealth is a simple matter of increasing your Wealth Builders (Income and Assets) and decreasing your Wealth Bleeders (Expenses and Debts) . This sounds simple; however, it takes a lot of discipline and effort to become rich.

Basic Finance: How to Become Rich 2

Increase Your Wealth Builders

The basic Wealth Builders Cash Flow is as follow:

  • You earn more money than you spend.
  • You save and invest the remaining amount.
  • Your Assets appreciate in value and generate additional income to feed the wealth building cycle.

For example, Jane used to spend all of her $500 weekly paycheck. After reading this article, she decided to save $50 a week and invest it in a dividend paying ETF. After 1 year, she invested $2,600 of her own money, the fund value increases to $2,800, and it pays a dividend of $100 (for a net increase of $300). As a smart investor, she reinvested that $100 to buy more shares. In this example, Jane increased her Wealth Builders by saving, investing, and reinvesting her money.

Basic Finance: How to Become Rich 3

Decrease Your Wealth Bleeders

The basic Wealth Bleeders Cash Flow is as follow:

  • Your income doesn’t cover all of your expenses.
  • You have to borrow money to cover the difference and add to your debts.
  • Your debts cost you more money and further increase your expenses.
  • Your finances spiral out of control.

The problem with people who struggle financially is that their money is tied up in the Bleeders cycle.

If you haven’t done so already, now is the time to make wealth building YOUR BUSINESS. Happy wealth building!

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Rad
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Really nice post, I think I’ll print out your square and put it in up in my Grandma’s house for all to see 🙂

Thanks for the simple breakdown

Jason
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Jason

This is a good post, I agree it resembles RDPD, but nothing in RDPD is all that original. So good work.

Pinyo
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Pinyo

Rad – that sounds good, and thanks for the endorsement.

Jason – thank you. I checked out your site, it’s very cool. I’ve added you to my technorati fav. I love the buy me beer thing.

Moneymonk
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Moneymonk

Wow sounds like Rich Dad, Poor Dad. But it’s good advice for anyone that is not familier with RDPD

Jason
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Jason

Your major/career may make it more or less difficult, but I don’t think it’s impossible for anyone.

Minimum Wage
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Minimum Wage

My student loan didn’t give me any leverage; I earn minimum wage today. Can I get my money back?

Minimum Wage
Guest
Minimum Wage

I got a liberal arts degree with a 3.5 GPA. Why did I get a liberal arts degree and not something more “useful”? I intended to go to law school, and that required a degree…any degree. I also had a minor in comp sci as a backup as well as an exotic (at the time) supplement for a lawyer. Then I couldn’t afford to go to law school and graduated at the bottom of a deep Rust Belt recession, so the jobs weren’t there for liberal arts majors. And the PC reduced demand for my mainframe skills.

Jonathan
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Jonathan

Love this post, I totally agree with your comments about “decreasing your bleeders” as these will sap the financial life out of you. I do think that the internet also breaks the traditional mould of investing given that you can realise assets almost in realtime especially it your investing through online investment broker services.

MoneyEnergy
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MoneyEnergy

This does resemble the basic points in Rich Dad, and yes, this is and should be basic Finance 101. Since this doesn’t appear to be taught in highschools, at least it is good that RichDad/Kiyosaki has popularized it. Many people have been able to learn the basics they were never taught beforehand.

Thanks for reminding us of these basics, Pinyo! It really is as simple a formula as this.

Lin
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Lin

what if life dealt a bad hand of extreme medical bills. i ended putting on credit cards because no Dr. would see me anymore due to owing to much money now I am living on the equity of my house and am unemployed and my equity is decreasing rapidly. any advise. oh yes, every day i look for jobs I have had a number of interviews but have not landed a job yet. how do I pull out of this.?

Muzafar Ali Chandio Dakoo
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Muzafar Ali Chandio Dakoo

This is really a practicle advice.

Basic Finance: How to Become Rich

by Pinyo Bhulipongsanon time to read: 3 min
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