There Are Two Ways to Build Wealth: Here’s the Route I Would Recommend
I see it all over the place now: the great debate on whether to pay down debt or to use more leverage.
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It’s a great question, but it means different things to different people based on their backgrounds, philosophies and life experiences. It also changes for people at different times in their life.
For example, when I was young, inexperienced and undisciplined, I was afraid of debt. I had no concept of good or bad debt, and I also had never been taught leverage very well.
Good Debt vs. Bad Debt
When I was young and poor, I thought all debt was bad and that if you had any, you should work your tail off trying to get rid of it. Later on in life when I had become a real estate agent and planner, I realized that there was good debt, such as mortgages, student loans or business loans, and there was bad debt, things like credit cards, most car loans and loans for things like furniture or payday loans.
Good debt utilizes leverage to build income, wealth and sometimes cash flow, whereas bad debt just costs you money on something that is usually declining in value.
“Football Game of Life”
By “Football Game of Life,” I’m refering to one’s working years (ages 25 to 65). When you’re 25 years old, you’re all excited about the future. By 45 years old, you’re similar to where I am in life, oftentimes thinking, why haven’t I accomplished more? By 65, many folks are playing catch-up. The one reason that I think this happens is because people are afraid of using leverage or they just don’t know how to. I was this way.
I was literally always working 2 to 3 jobs, and my wife also worked while I watched the kids in the evenings. I just thought we both needed to work more to save more money to invest, and then we’d be rich. Leverage wasn’t even in the equation or on my radar.
But when I went in the real state, I started investing using other people’s money, private money and even the banks’ money, and soon I had built a small empire of real estate. I didn’t even realize until years later what was happening, and it was the power of leverage. It was also the power of tax breaks. This is the reward the government gives us for providing jobs or housing for others in society.
So, How Do People Become Wealthy?
There are really only two ways — once you remove luck from the situation. If you don’t inherit money, marry money or win the lottery, you usually become wealthy by becoming a high income earner, or you become wealthy through the acquisition of assets… or some combination of all the above.
This is pretty straightforward for most people to visualize. You just earn a lot of money at your job, right? There is more to it, though.
The problem for many is retirement and concerns of keeping the same lifestyle after the earning years stop.
The second problem is taxes, as earned income is by far taxed the highest (ask anyone in California). The trick for these folks is to convert as much income as they can into cash flowing or appreciating assets during their working years. But this is easier said than done, especially since the more you make, the more you need to replace.
Now, the asset approach is more about using leverage (usually meaning money or people) to accumulate assets and cash flow that enables one to control their most important asset, which is time.
After all, isn’t financial freedom really about having the freedom of time?
When I first started buying investment properties, after using up all my money on the first couple rentals, I used credit cards (in other words, the bank’s money) to acquire and fix up properties to rent. After fixing up these handyman units, I’d move in a tenant and then refinance and pay off the credit cards. Rinse and repeat.
Later on as I grew my portfolio, I just started using private investor capital (similar to hard money) and even refinanced into some commercial loans. Eventually, after the market grew and my equity increased, I was able to access that equity via lines of credit. I used those lines to invest in my own hard money deals to other rehabbers.
As for my note business, I just started raising private capital to build the business just like I had done to invest in some large commercial real estate projects. Looking back, it was just a natural progression.
So, if you’re not marrying or inheriting a small fortune, maybe your best bet is to shift your focus to using leverage.
Do you have any unique strategies for leveraging money, people or time?
Let me know with a comment!