I had a relatively low bar for what I considered rich when I was younger. Given where I grew up, reaching that bar might have improved my financial situation, but it was still considered far below the country's median household income at the time. I was well into my financial journey when I realized a critical flaw in my characterization of wealth. The fault was that my concept of wealth tied my ability to become wealthy directly to my ability to bring in a certain amount of income.
Income and wealth are two very different things. Income is the money you consistently generate, while wealth is what you own, including your home, car, stocks, and other valuable assets. Let's consider some ways to measure income and wealth.
In my post on the Wealth Baseline Equation, I talked about the concept of net worth and how it is the difference between your assets and your liabilities. I went on to break down how your assets are a combination of your income, savings, investing, and other assets you own. So let's use this as our framework for considering the difference.
One way to measure income is to consider it in terms of your yearly net salary. The net part indicates your actual take-home amount after taxes and other deductions are taken from it. We need income to pay recurring bills, build savings and investments, and purchase the things we want. Although there are many different ways to generate income, its role in your finances remains the same. Income is the heartbeat of your financial system.
There are also many ways to measure wealth. The most prominent way is to view your net worth as your level of wealth. Since your net worth represents your net assets when you deduct your total expenses from your total assets, the amount you are left with represents what you have available to you when everyone has taken their cut. That is your wealth.
This concept of wealth provides the most significant insight into why income sometimes fails to convert to wealth. Income fails to become wealth when your total liabilities and spending exceed your total assets for a prolonged period. Put another way, if you continuously spend more than you make, your wealth will continue to decline regardless of your income.
Knowing why high income fails to convert to wealth is not enough to make you wealthy. Start monitoring your income and expenses now to apply this knowledge. My post on Mindful Spending provides you with some actionable steps to start watching your wealth. It is essential to develop positive financial habits and build a solid financial foundation if you wish to build wealth. The skills that you develop managing your money scale with you at any level. You can start building your foundation by reading more of my blog at www.cfpisolutions.com/blog or by reaching out for a consultation to discuss a tailored strategy.
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