With all the talk now about the national debt, the debt ceiling, and the future of the global economy, it’s vital that every investor takes action to better their own financial well being. We cannot rely on the governments or banks to step in and make things better because they are responsible for this mess. Ordinary people like you and I need to start getting educated with our money so we can revive our economy.
With the national deficit in the trillions, future generations will have to carry the burden of this debt long after we are all dead. The biggest reason this is so important is that people don’t realize that we are all linked in the system. Taxes will continue to increase because debts will have to be paid off by someone, and the US taxpayer fits the bill just fine. How I manage my finances directly influences the quality of life for not only all of you, but future generations that are not yet alive.
In a survey I submitted a few days ago on my website, all of the participants indicated that they did not know what an asset or a liability was. All of them also indicated that they don’t know the different types of income there are. So here is a brief description on fundamental financial principles.
Earned
Earned income is the most taxed out of all forms of income, and is generally made by trading time for money in the form of a job. How are you going to build a retirement portfolio out of earned income? You can’t. You cannot work for the rest of your life, so it’s in your best interest to build up all three forms of income.
Portfolio
Portfolio income is the most common form of income among average investors and is not taxed as hard as earned income. Portfolio income is income from stocks, bonds, mutual funds, annuities, cd’s, savings, dividends, capital gains, or inheritances.
Passive
Passive income is the best source of income because it’s the least taxed, and the least time-consuming. If you own an investment property that’s rented, you’re pocketing some money every month doing nothing. The same is true for developed businesses and royalties.
Retirement
In today of all days, it is a necessity to build enough assets so that you can afford to stop working and pay yourself. This is the reality of retirement now. A company cannot, and will not take care of you, and neither will your government. Each one of us will have to establish all three forms of income to provide enough revenue to not only survive, but thrive.
Now it’s time for a brief history lesson. Here are some important years that not only changed the world, but directly affect your financial well being:
1913
In 1913, the Federal Reserve was created to help manage the distribution and regulation of money in the US.
1944
The Bretton Woods Agreement was made. It basically replicated the Federal Reserve for the world.
The World Bank was created to manage the distribution, regulation, and convertibility of international currencies and commodities. The modern monetary system was born. Although it was still backed up by gold, the USD became the reserve currency of the world.
1971
Without authorization from congress, Richard Nixon cancelled the direct convertibility of the US dollar to gold or silver. This took the dollar completely off the gold standard and was only backed by the credit of the US government. It became fiat currency. Every nation soon followed suit and the entire global economy expanded by creating more debt.
1974
The Employee Retirement Income Security Act was passed, creating the 401(k) This replaced the DB or defined benefit pension plan, which gave employees a check for life when they retired.
This new legislation meant that employees were now responsible for their retirement, and a company was no longer required to take care of its employees when they retired; which really meant that the company had no liability if the employee’s retirement fund was destroyed by market volatility.
You still with me? Great! I want to briefly touch upon one more financial concept, and that’s the difference between an asset, and a liability.
Asset
If you were to stop working today, an Asset will put money in your pocket. Assets fall into passive or portfolio income because they provide cashflow regardless if you work or not. The goal we should all be working for is to build many assets, while minimizing our liabilities.
Liability
If you stop working today, a liability will take money away from you. These are debts and bills that must be paid. Most people have many liabilities, and few assets.
I hope that if you already understood these concepts, that seeing it again will have reinforced it into you, and if this is the first time you’ve heard of these concepts, that you will make a commitment to yourself to learn more about them.
Let me know what you think in the comments below, and feel free to share it with your friends everywhere on the web.
Devon Phelan writes about money saving tips and budgeting at www.MoneyFile.net a personal finance website in the saving and financial advice sector. Devon also writes about credit cards, investing, mis-sold mortgages, unfair loan agreements and credit rating advice.
