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The Wealth Formula: Rules for Building & Managing Wealth

This is the Wealth Formula

Resources can be broken down into the following:

  • Time – your life spent, your flexibility, something you gave up in exchange to spend on a product, service, etc.
  • Money (currency) – a n abstract representation of the ROI of your time(priced in value/hour) replaced physical commodities like gold, silver, seashells, cows, etc.
  • Asset or Commodity – an object you once exchanged for time

Let’s break those things down below:

More Assets Than Liabilities

They say “Less” is more, and in some ways that is true. It’s not so much that less is more in this area, but rather what kind of more that you have. Our goal when building our wealth is to reduce our living expenses. Living expenses = Taxes & Liabilities. Liabilities are things that we have to spend money on, that lose value over time.

It’s possible to turn Liabilities into assets by finding a way to cause that liability to generate profit.

As an example a spouse who does not help around the house, may sit and watch TV all day. But should that spouse begin doing housework, taking care of the children, or starting a business that brings in more revenue, that spouse becomes an asset. Historically marriage was seen as both an alliance of the wealthy, a way to manage assets, and as an investment. While some spouses are more expensive than actually hiring help the bundled companionship it can offer, as well as children can seem a bonus.

It’s also possible for liabilities to at some point turn into assets.

In places that depend on farming for their livelihood, children are short-term liabilities that turn into long-term assets. The more children you have (diversification) the more you manage your risk and create less work for yourself in the future. This holds true for people who own family businesses as well in the form of legacy. In countries that focus on education as a means for higher  paying jobs, children are seen as liabilities and are delayed until education and in some cases work advancement is complete. People in these more wealthy societies tend to view children as a liability and can’t understand why poor people in their same society have children, without realizing that children are a future asset for these poor people who will come to rely on their children to care for them.

Once we are able to reduce our living expenses we can then focus on reducing our taxes. As a side note, any time we spend money and don’t receive anything back for the money we spent we have a liability.

For a different perspective and change in mindset Taxes could be viewed as an investment if you think about it in terms of what are you getting back for it, we’ll explore whether we view Taxes as an asset or a liability later. Donations, when we donate to a service or charity could also be seen as a liability, unless we see an indirect return for our money – a pay it forward, karmic effect. Where we invest in things we want to see more of in our society. These items Taxes and Donations don’t make us money but we are investing in something.

Diversification is a Form of Risk Management

Diversification is a form of Risk Management, and in all honesty is the heart of spreading risk (Insurance). Whenever we diversify we are participating in a form of ‘insurance’ risk spreading.

“Don’t Spread yourself Thin” and “Don’t Place your Eggs All Into One Basket” may seem like an oxymoron in this scenario they both true. Slow continuous growth allows you to adapt, and scale up as you feel ready to grow. Sudden Wealth is not necessarily a good thing. One only need to research the “Tragedy of Winning the Lottery” and the “Psychology of Sudden Wealth” to understand. A lot of this relates to poverty mindset and who the lottery targets, and why people who have sudden wealth were not able to build upon slow wealth before.

There are a few keys that I have found for Diversification.

  • You start with one, and scale up
  • Additional Assets = Additional Risk Management
  • Slow continuous growth
  • More Quality (Less) over Quantity (More) Matters

Make Your Money Work For you, Not You For it

More Passive Income = Less Time Spent.

Money abstracts away from the time we have invested into something. Whenever we spend money on something, that’s the hours of our life. When we buy a bottle of water, how many hours did we work to be able to purchase that? Someone who makes $6/hour for their time, and then purchases a $6 burger and fries at Mcdonald’s in that moment has spent 1 hour of their life. Those hours add up. It’s incredibly important to view your money as your time. And then think very carefully on what you want to spend your time on.

For instance, we spend money for many reasons, but the biggest reason is for flexibility and convenience. Someone else invested the time and knowledge in learning something. So when you purchase something from someone, you’re purchasing their Time and Investment spent on something, based on how much you value what that person is doing. And you’re exchanging your own Time and money based on what someone else values what you do.

When you remove away all the abstraction you get to the heart of what drives the entire economy and what the Markets are all based on “Value Creation & Exchange”, how much do I value your time, and how much do you value mine.

Entrepreneurs and people who have a wealth mindset tend to approach Time differently. The use their time to build and invest in infrastructures that will return profits to them over time. They work hard in the short-term, for long-term gain. They invest in themselves to learn skills, and then use those skills to build and buy assets, that allow them to either delegate services to automated technology or employees who sell their time for money.

Society doesn’t necessarily have to be that way; in an automated society as an example society can be designed in a way in which users who purchase objects are seen as investors, minus the utilities that they use. And the original founders who built the system are seen as managers, developers and founders. But our society arose from an agricultural and industrial world before the advent of automation and still require a point of entry (initial Money/time spent).

Distribute & Redistribute Your Income

 

Another important part of the wealth mindset is what you do with your money.

I view Saving as a form of Insurance, and Insurance as a form of Risk Management. The origin of Insurance has been around for a long time. One example is of Wealthy Merchants. If a Merchant had to cross the seas, and sent a single ship full of luxuries to sell had that ship looted, he lost it all. However, if he diversified by sending 10 ships across the ocean instead of just 1, and his ship was either looted or pillaged by nature – he still escaped with some of his profits. Today when we think of Insurance, we think of ‘saving’ for a future disaster, and when we think of saving accounts like investments, a way to save for the day when we can retire. I view Insurance & Retirement as one in the same, the line between them is thin. It’s very easy to think about retirement funds as a form of insurance, “Should the day come where I am unable to work anymore I have to set aside money.” since all humans grow old and eventually die, we don’t view retirement as a form of insurance but as something we can live off of.

I view Savings (for retirement and rainy days), alongside Insurance as two sides of the same coin. These are things that we expect to use at some point in the future and so keep aside a lofty fund when the time comes. I prefer to be my own insurance company (self insurance and captive insurance). Obviously when more people pool their money together it helps to pay for more things, but if your goal is to grow your wealth and build upon that wealth in a self-sustainable circular fashion, then being able to be your own insurance company, and consequently even be your own bank (since the lines between these two are thin) I prefer to view them in that mindset.

Setting money aside into savings account is a form of risk management. You are thinking long-term, what if the 10% you place into your assets fail, how much do you have set aside in your savings, and what about your Living Expenses and Liabilities.

Reduced Tax Burden

In the U.S most people think that the Rich are not taxed enough; and yet the higher up the income bracket you go, not only are you taxed more for your labor, you’re also more likely to be audited. Wealthy individuals scan the legal system to find ways to cut their tax burden. There are various methods they employ to reduce taxes and these methods are methods you can use too. :

  1. Income Modification – keeping taxable income down through incorporations and trusts. By modifying how much traditional income you receive and reducing income, or limiting how much income you actually receive.
  2. Capital Gains Management – those who incorporate own shares, which earn them dividends. They delay realizing those gains for a year.
  3. Tax Deferral – deferred taxes on items like their 401(ks) and similar.
  4. Borrowing – one method is to borrow against themselves are accumulate debt strategically (the kind they can pay off), but a more advanced method is to use debt in ways my mind cannot phantom since I avoid debt altogether.
  5. Estate Trusts – utilizing trusts (which were designed specifically to avoid the Kings who would take property from deceased knights )

You don’t have to be rich to avoid taxes, you just have to adopt that mindset. Changing how you spend, what you spend on and educating yourself in the tax code can help you come up with ways to avoid taxes too. But not just avoiding taxes reinvesting into services you do agree with. Remember Taxes serve a purpose, if we outright don’t pay taxes those who fight in the war will have no food, roads won’t get built and so on. But if we find other ways to efficiently manage our money and fund things in a way that actually tackle the problems at hand that’s another story. If you have no method of helping your community then tax avoidance to grow wealth becomes more selfish than not.

Resources (How the Mega Rich Avoid Taxes)

Tax Mindset: Conscientious Wealth, The Ethics of wealth building

The greatest barrier to reducing tax burden is our mindset. U.S. schools teaches us that taxes are good and needed to fund public services. In a democratic republic these public services are decided by elected officials who decide to represent us. These officials are typically partisan, leaning to the extreme left or extreme right. They often do not spend money efficiently and U.S. citizens often discover money they paid into the system is increasingly covering less and less of what they need. Part of this problem is related to our economic system, a topic I intend to cover in another post. This includes how it’s not taxes themselves we find oppressive but (1) how that money is managed, (2) who gets a say in telling us what we have to pay for – whether we object or don’t object. (3) and what the consequences are when we don’t (property theft and imprisonment).

In spite of all of this many people feel like paying taxes on our labor and for the right to own property (or risk forfeiture or imprisonment) is necessary to our survival. They believe that without a tax system in place that many people would not pay. The Articles of Confederation collapsing and the history of how the Constitution was formed shows this battle playing out indeed.

Changing your Tax Mindset means not just thinking, “How can I avoid taxes so I can keep as much money as possible”, but instead, “How can I avoid taxes and funnel them into services that best serve my brothers and sisters”.

Thinking creatively about an alternative more voluntary tax-based system. I choose to think of taxes in the following way

  1. Subscription-based “Cafeteria Tax”– this system states that if you pay into it, you get to use it, and allows you to pick and choose what you want. Baking alternative solutions into the system. Just like online subscription services you can pick and choose which type of services you would like to use. In the U.S. some systems work like this, but other systems mandatory require you to pay into the system whether you agree to use it or not. The problem with this system is how to handle people who cannot contribute to the service but need resources. Where tax is thought of as Annual or monthly fees.
  2. Free vs. Premium Service – many online games have a free vs. premium model. The free service when designed well offers the basics of what people need, like a basic universal income, basic health services, but added convenience and services can be tacked onto for those who pay into the subscription-based system or fee. Offering flexible payment models that reduce what you have to pay up front can also help; and choosing to pay for 12 Months, 2 Years, or even a Lifetime can also help.
  3. Compulsory Saving – rather than making people pay into a system, instead, make each person pay into an account with strict stipulations for when and how it can be used. Similar to insurance policies and retirement, except imposing a mandatory saving mindset that enforces a sense of responsibility.

Rules for Wealth

  1. The Pareto Principle: Where Less Is More
  2. Make Money Work For You, Not You For it
  3. Have More Assets than Liabilities
  4. View each purchase in terms of Quality Investment
  5. Save, Repurpose & Redistribute ROI into Assets and Self-Insurance accounts
  6. Monitor and Track Performance through portfolios