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What Is the Financial Definition of Wealth?

·8 min read
Rich businessman in a private jet
Rich businessman in a private jet

Everyone has a different idea of what wealth is. You could ask 20-somethings what they think wealth is, and they might describe extravagant houses or a private jet. Someone older might mention lucrative investments. Everyone seems to have a different idea, because “wealthy” is often used interchangeably with others like “rich” or “secure” or “well-off.” Here’s a breakdown what “wealth” means from a financial standpoint and how you can build up some of your own. One of the smartest moves you can make as you seek to build wealth is to work with a financial advisor.

What is Wealth?

While we use “wealthy” to describe people with excess money, such as upper-class individuals, the term “wealth” in noun form doesn’t necessarily have that association. To explain, it quantifies what someone owns, but there is no threshold to surpass. So, when you hear someone say another person is rich because of x, y and z, the same can’t be said for “wealth.” The word “wealth” means the number of assets a particular person, group or entity possesses. It only measures the market value of these assets after any debts have been subtracted.

The crux of wealth is associated with gathering valuable or rare resources and saving them. It’s not used as cash flow or income.

Wealth in the U.S.

Although wealth does not have a particular value associated with it, many people have ideas on what that looks like numerically. According to Schwab’s 2019 Modern Wealth Index Survey, Americans hold a personal belief that a “wealthy” individual needs about $2.3 million in his or her personal net worth. That’s significantly higher than the median U.S. household net worth – more than 20 times the median found in the Federal Reserve’s 2017 Survey of Consumer Finances.

The federal reserve documented an increase between 2016 and 2019 to the median and mean (inflation-adjusted) family net worth. In that time, the median rose 18% to $121,700, while the mean net worth grew 2% to $748,800. These trends were even seen growing earlier on during the three years before where the mean net worth grew 25%.

However, despite these high numbers, most Americans are struggling to save. According to the Charles Schwab survey, 59% of Americans live paycheck to paycheck.

How to Build Wealth

Wealth isn’t an unattainable goal, and the boat hasn’t sailed just because you didn’t become a millionaire in your 20s. Building wealth is something that anyone at any age should strive to achieve. It will create a stronger financial backbone to rely on in case of emergencies, and it isn’t as difficult as you might expect. When you break down the process, it involves stockpiling funds and careful planning – something you should already consider doing.

Create a Financial Plan

A mansion in Rhode Island
A mansion in Rhode Island

There are several things that can eat away at your finances, from taxes to overspending. Creating a financial plan can help you build solutions that limit the amount of money you’re bleeding out on a regular basis. You should map out where you are now and where you want to be, whether that’s a short- or long-term point in the future. Then, create steps that will help you cross that distance.

The specific measures you need to take depends on your current financial situation. If you have lots of debt then it is a wise idea to cut or eliminate that debt – not because that automatically results in debt but because, with debt out of the way, you’ll have more income to invest and save. There are several ways to eliminate debt. You may have to plan which method you want to use: the snowball or the avalanche.

Saving money, like debt reduction, is an indirect but vital way to build wealth. That’s because money saved is money available to invest. Saving could include revising your weekly or monthly budget to ensure there are leftover funds you can put towards the future. Or, you may have to revisit your current tax strategies, such as deferring payment at the end of year to avoid entering a higher tax bracket.

Save for the Future

Living in the moment is fun for a while, but it’s not sustainable. Even in your 20s, you should start considering how to save up for the future. Luckily, you don’t have to have it all in one place within a decade. You can slowly add to your retirement savings over time until you hit your goal. There are tools like retirement calculators that can help you estimate where you need to be and whether you’re on track, or you can use the recommended rule of thumb.

According to Fidelity, you should have the equivalent of one year’s salary saved by age 30. That jumps to three times that by age 40, six times by 50, eight times by 60 and 10 times by the age where you can collect your Social Security in full.

To achieve those savings, you can pursue investing as an option. There may be employer-sponsored retirement programs like 401(k)s that you can use to your advantage. These plans often offer a range of investment options that you can trade in. Typically, they include mutual funds, individual stocks, bonds and exchange-traded funds (ETFs). Mutual funds and ETFs are popular since they offer relatively lower risks compared to some of the other options.

But, if you want an investment strategy that will pay off, you need to build a diversified portfolio that matches your risk tolerance. Investing in an array of asset classes will minimize your risk of loss.

Set Money Aside in an Emergency Fund

The last thing you’ll want is to have an unexpected emergency drain you of your savings. According to Charles Schwab, only 38% of Americans have an emergency fund in place. That leaves a large vulnerability in many Americans’ lives. However, if you open an emergency fund, you won’t have to fear or dip into your retirement savings.

This may be a vital option if you lose your job or have sudden damages to cover on your property. Usually, your emergency fund should have between three to six months’ worth of expenses held in it. You shouldn’t stash it in any account influenced by market risk, or that will penalize you for using the money. So, you may want to choose a savings account or a money market account.

Eliminate Debt

We mentioned debt, and that’s because it’s one of the biggest impediments to saving up money. When you are dealing with debt and growing interest on top of that, it can feel like you’ll never be free of it. However, the sooner you pay them off, the more time you’ll have to put any funds towards your savings.

You can eliminate your debt in a number of ways. For example, you can take a page from Dave Ramsey, a noted and published financial advisor, and implement the snowball method. In this system, you list your debts from smallest to largest, ignoring their interest rate. You then pay off the smallest debt while making minimum payments on the rest. Like this, you eat away at the debts until they’re gone.

However, that may not be the method that works for you. Consider where you can cut back on costs to help pay off that final chunk of debt or where you can find new opportunities for income.

Keep an Eye on Your Credit

As you’re paying off your debt, it will be important to keep an eye on your credit. Paying off the debts while overloading your credit card will only hurt you in the end. You only want to put the maximum on your credit that you can pay off completely at the end of the month. Lenders also prefer you stay below a certain usage level when using your credit.

This reminder may be important for those saving for milestones like a new house. If your goal depends on a positive credit history, you may want to explore all your available options to pay off your debt.

Bottom Line

A wealthy person's yacht
A wealthy person's yacht

Your definition of wealth won’t always match everyone else’s, but at least be sure not to confuse wealth with a high income. How you achieve wealth depends on where you’re starting from and what you hope to gain at your finish line. That may mean focusing on eliminating your current debt or finding new ways to get extra cash every month. It’s also up to you to figure out how you’ll see that wealth grow over the years, whether it’s taking advantage of available plans like a 401(k) or finding a brokerage platform to invest on.

Tips on Saving for Retirement

  • Consider working with a financial advisor on building your wealth. Finding one doesn’t have to be hard. Thanks to SmartAsset’s financial advisor match tool, you can connect to qualified local advisors within minutes – get started today.

  • Use SmartAsset’s retirement calculator to see if your savings plan is on track at the rate you’re supposed to be going, or if you need to adjust your current plan.

  • They say that by age 35, you should have at least one year’s worth of your income saved up for your retirement. Even still, you may not have much or anything stashed away yet. That’s alright! It’s better to start late than never at all. Get a look at what the average retirement savings amount is so you can get a comparative starting point.

Photo credit: ©iStock.com/LightFieldStudios, ©iStock.com/iShootPhotosLLC, ©iStock.com/ljubaphoto

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