Building Wealth is Not Only About Investing.

I used to think that to build great wealth for myself, I have to read a lot of books, enrolled in expensive courses and spend a lot of time on investing, so that I can build wealth.

And when I do not know how to do that, I felt insecure.

As an investor, I can share with you that knowing how to invest is important, but for you, that may not be the most important thing to build wealth.

As you go through life, you encounter friends and family with their own money stories. Why is it that some of your friends was able to become rich , while others, despite their great situation, always do not have enough money to use?

Yet there are some who started life with a very average environment, yet end up in a much better financial situation than most of us?

Do they all know how to invest, that is why they succeed and why others failed because they do not know how to invest?

Being a practitioner, as well as reading a fair amount of materials from thought leaders in wealth building, what I can say is:

Most of the authority and thought leaders are talking about the same thing.

There are slight differences, and perhaps in the way we present our concepts, but the magic formula to building wealth is largely the same.

What separates those that put themselves in a great financial position from those that didn’t depends mostly on mastering a critically important layer of competency.

Mastering this lay is simple. It makes you less reliant on having abundance in luck. It is very systematic and scientific.

And most of all, it means being wealthy is within your reach.

Why haven’t your friends start pursuing wealth actively?

I believe most of us wants some form of profound change in our lives.

Having more wealth is one of them. Not many people are zen enough to say having wealth do not change their lives greatly.

I find that the reason people do not start is because:

1. They are not motivated to. They live a life very passive about wealth
2. They do not know how to go about obtaining wealth

#2 is knowledge and wisdom. It is hard to discern when so many experts try to sell you various formulas. I will help you address this today.

Today, I will help you deconstruct this formula to learn:

• The three fundamentally sound things that lay our wealth building foundation that YOU can do too
• We compare how our wealth will differ, if we do more of these three different things
• What are the 2 most important factors that greatly impacts your wealth and they just happen to be within your control
• The alternative strategy to build wealth if you are not investment savvy
• The difference in not saving now but saving later and end up doing just as well
• If you build wealth, would you have enough to spend?

My Personal Journey to Wealth

I wasn’t born with a silver spoon.

In fact, due to a lot of circumstance I had to stop taking pocket money from my parents starting from the age of 16.

I went to a local university and came out of university with a degree and only $6,000 in net worth under my name and having to repay $16,000 in student loans that my parents helped me paid off.

So I therefore started my working life in Negative Net Worth state as they called it.

This may be common in USA but in Singapore, many of my peer’s parents are prudent enough to provide for university education fees that they do not need to repay, so they started off with a clean slate.

Money was hard to come by when I was growing up and this scarcity imbued the mindset that I cannot lose money, I need to watch and save it. Investing is a dangerous form of gambling that will always end in tears.

In the last year of my university, during SARs, I grew disillusioned while studying.

What is the use of studying one more year for an honors degree, sapping my family funds, when there isn’t much jobs waiting for me out there.

I began to look for something that is safe and better than saving in fixed deposits.

And that is how I descend into this unknown world of investing.

For the past 13.5 years, I worked as an engineer, not drawing more than $5,000 in monthly salary at any point in my career. I build a set of Wealth Machine that gives me financial security.

In 1.5 years time, I believe I can reach financial independence, where I can afford to take the foot off the pedal and choose how I want to live the second part of my life.

Looking back, I realize why I was successful was because I understand this layer of wealth building competency and what made the most impact to my wealth.

I called this the Wealthy Formula.

When I talk to the peers who were able to achieve success, they don’t really say their formula out loud, but when I deconstruct their success, it is very much due to this formula.

I believe you can do it as well.

The Wealthy Formula Explained

Building sustainable wealth for the average folk involves doing three things well:

1. Optimizing your Spending by spending on what you Value and spending less on other things
2. Earn more
3. Build Wealth Wisely

Most of the finance advice you read anywhere are likely to distill to this formula.

After finishing this article, I am sure most would agree with me.

When your wealth is able to reliably distribute an annual cash flow to cover your annual expenses, annual subsistence expenses, you can reach FINANCIAL INDEPENDENCE or FINANCIAL SECURITY

So how do you spend less, earn more and build wealth wisely? What difference does it make to your wealth by doing these 3 things?

Let’s get to it.

Step 1. Optimizing Your Spending

The first part of the equation is that you need to optimize the cash that outflow out from your family or you.

We all started with roughly almost the average amount of privileges. We went through roughly the same education system, and judging by the trend, a large proportion of the people work towards a minimum degree in university.

What usually differentiates people are their spending patterns.

The wise ones

• Spend within their means. If they earn $2,500, they won’t spend $3,500
• What they spend on reflects their values. You will not see them buy the best blenders, television and go for big holidays if their highest value are their kids. You are likely to see them working within what they can spend on and devoting an above average amount compared to other parents on their children
• Are conscious about spending and have a systematic spending plan. Some use budgeting to be in control where they funnel their income and seldom encounter an emergency spending that catches them off guard
• Sell old stuff before buying new. There is a conscious effort to “liquidate” whatever they can, think thoroughly before buying something and ensuring they get a good value for their purchases (value is not cheap, its quality at an acceptable price)
• Will not borrow to pay for things that do not build wealth. Using credit cards or loans to boost spending will mean not knowing what  you need to cut in the future to fund purchases that don’t add value

How much does your spending affects the wealth you build over time?

Lets go through this example.

Let’s use Kyith as an example.

Here is what we can assume about Kyith:

1. Age Starts Off: 25 Years Old
2. Age where we assumes he finish Accumulating Wealth: 55 Years Old
3. Number of Years Accumulating Wealth: 30 Years
4. Monthly Gross Income: $2,500
5. Number of Months of Bonus: 2 Months
6. Government Tax % (or Forced Savings): 20%
7. Disposable Income %: 80%
8. Annual Wage Growth: 3%
9. 1st Year Wealth Funding %: 10% (you put in this % of your disposable income in the first year into wealth building and continues to put this amount over time)
10. Subsequent Wealth Funding %:0% (how much % of your subsequent year’s disposable income increment is added to your annual wealth building amount. e.g 50% of 3% increment means contributing 1.5% of next year increment to wealth building)
11. Wealth Growth Rate: 0% (annual rate at which your wealth building method grows at over the duration)

As a spendthrift, that is, a person who does not know how to save, Kyith only manages to commit 10% of his initial disposable income to wealth building, or a sum of $2800/yr.

In this example, the money is put in cash which does not have a Wealth Growth Rate. Once Kyith commits $2800/yr, he continues to commit $2800/yr for the rest of 30 years.

What you notice is that eventually Kyith will build up a Net Worth of $84,000.

While Kyith’s salary grew, his % of disposable income allocated to expenses or spending increases from 90% to 93.3% to 95.76%.

His % of disposable income allocated to wealth building overall fell from 10% to 6.6% to 4.24%.

Kyith doesn’t have a problem with spending definitely, but can he do better in building wealth?

Now what if instead of spending so much, Kyith decides to spend less, be more frugal.  He decides to make a tweak to his life for the better:

1. 1st Year Wealth Funding %: 50%

Due to spending less, Kyith would then be able to possibly put 50% of his initial disposable income ($14,000 per year for each of 30 years) to building wealth.

All other factors stayed the same.

By increasing his funding rate to building wealth from 10% to 50%, Kyith built up $420,000 in 30 years compare to $84,000 previously. 

There is no wage growth or higher wealth rate of return, just a simple tweak to becoming more frugal, the amount of wealth build up is drastically different.

You may have this question in your head: Even if Kyith is frugal from the start, wouldn’t his future spending increase? How would he be able to maintain that?

Kyith’s % allocated to expenses did drop to 50% but $14,000/yr is still a good sum for a young working adult to get started. Since Kyith continue to only contribute $14,000/yr in subsequent years and no  increment, his annual expenses can grow from $14,000 to $28,352 in 15 years and $51,983 at year 30.

After contributing the initial to building wealth, Kyith can scale up his spending over time, and yet remain responsible to his goal of wealth building.

What we learnt here: Spending less matters. The less you spend the more you can channel to build wealth, even when you build wealth with low return assets such as cash.

Step 2. Earn More From Your Take Home Income

Optimizing your spending is important, but doing that is working within the constraint of your existing employment situation.

You are limited by your income.

For this 2nd part of the equation, why not increase amount of cash inflow you take in?

The internet have made knowledge readily available, and have increase the different ways we can build knowledge and enhance our existing skillset, not to mention learn new skills.

It has also liquidfy the available opportunities that we can find to supplement our income from our main job.

The wise ones

• Make use of company education and training to enhance their core competency.  They also developed an interest in their work to develop a valuable skill set. This makes them employable and able to seek opportunities with higher remuneration
• Does not burn bridges and network extensively
• Change jobs when they have learn what they can, when they do not feel challenged or seek up greater challenges or when they are not adequately compensated
• Work overtime to gain extra money (but this is probably at the expense of health)
• Build hobbies and interest areas into a monetary income stream. When you are interested in certain areas, you might be able to build a following and be able to sell goods and services using your expertise to supplement your main job income. E.g. A bike enthusiast who gains contacts on cheaper or not available bike parts and able to bring them in to sell to other local enthusiast
• For some people with unique competency, the internet has liquidfy the environment such that you can take up free lance jobs. This includes, designers, artists through ODESK, Freelancer.com or you could have competent skills that can consult other contacts on the side
• This may overlay previous, but a person can also start a side business with like minded folks or good friends to seed a business that may eventually provide a sizeable income stream

What are the effects to the wealth built up when we actively sought to earn more?

Let’s take a look at Kyith again,:

• Age Starts Off: 25 Years Old
• Age where we assumes he finish Accumulating Wealth: 55 Years Old
• Number of Years Accumulating Wealth: 30 Years
• Monthly Gross Income: $2,500
• Number of Months of Bonus: 2 Months
• Government Tax % (or Forced Savings): 20%
• Disposable Income %: 80%
• Annual Wage Growth: 3%
• 1st Year Wealth Funding %: 10%
• Subsequent Wealth Funding %: 50%
• Wealth Growth Rate: 0%

Kyith is similar to the previous stage where he is a spendthrift, only this time, other than putting 10% of his initial disposable income into wealth building, Kyith also puts 50% of future disposable income increments (which works out to 1.5% per year) into wealth building to supplement the initial 1st year wealth funding of 10%.

By putting 50% of his future increments into wealth building instead of spending them, Kyith’s net worth have already shown a remarkable improvement from $84,000 previously to $330,055 now.

Notice the power of a psychological Jedi trick of pre-commitment of your future increment to wealth building. Kyith’s total wealth funding rate as a % of disposable income increase from 10% in year 0 to 23.5% in year 15 to 33% in year 30.

You can do something similar to Kyith if you cannot commit a larger % of disposable income to wealth building.

Be motivated and pre-commit your future increments to building wealth.

What if, Kyith makes himself more competent and his salary can grow at a rather much more than the conservative estimate.

If we smoothed out Kyith’s various job hopping and promotions, we conservatively estimate Kyith’s gross income growth rate to increase from 3%/yr to 5%/yr.

We make the following adjustment to Kyith’s wealth building profile:

• Annual Wage Growth: 5%

What would such a small wage growth change do?

The first thing you will notice is that the net worth grew to $594,143 in 30 years compared to $330,055. That is just splendid

Kyith’s % of disposable income allocated to wealth building changes from 10% to 29.7% to 40.2%. Compare this to previous, Kyith is allocating a large % to savings, yet he has more money to spend.

If you ask me: Why has more impact, earning more or spending less, I would say earning more has more impact.

This is because there is just so much you can save and cut in your expenses, and its difficult if you only earn that much, but if you ramp up your earnings, you have much more room to play with.

The Impact of Side Jobs / Hustling on Your Wealth

For some of us that starts off, we realize that we have more free time then we initially realized. We can of course put the freedom in the mind to creating side businesses such as a content advertisement blog, drop ship business, or developing a business plan for a software as a service with some friends.

You could of continue your part time job at university by picking up 2 students and teaching them tuition for $400 per month each.

You could ask for more responsibility if you are paid more for overtime (which may also mean a bigger chance of greater salary increment or promotion)

This enterprising use of your mind and time, will enable you to supplement your Main Salary with Side Jobs, Temp or Overtime work.

Lets go back to Kyith who is putting 10% of his initial disposable income and 50% of subsequent increments into wealth building, where his salary also grew by 3% per year. The wealth built up was $330,055.

Kyith has grown more enterprising, paying more attention to his interest area and was able to create an additional stream from monetizing it.

This may be challenging to model because this stream might only be temporary and may not be long lasting but lets give it a try.

Kyith takes on a side job with the following profile:

• Monthly Component of $200 for what the side job brings in
• Additional Component of $0
• The side job grows at 1%/yr
• This side job is taxable

The side job here does not seem to bring in a large amount of income.

However, the additional amount  will supplement the expenses, in the case Kyith spends less and commits say, 70% of his disposable income to wealth building and only 30% for spending.

$200 monthly will help a long way.

The attractiveness of side hustles is that eventually they may morph to be something more. Side hustles can become main business.

And that could ramp up your wealth building.

The Lesson Learn here: Earning more matters. It increases the amount and flexibility you can devote to wealth building and spending.

Optimizing Your Spending and Earning More WIDENS the GAP

You will ask me: Kyith, which is more important, optimizing your spending or trying to earn more?

My answer is, it depends.

The overall idea, first came up by Paula Plant from Afford Anything, a great financial independence and real estate investing blog, is to focus on widening that GAP.

Some people are in circumstances that they cannot boost their earnings in the short term, so they have to focus on optimizing with what they have.

However, optimizing your spending can only do so much.

Instead, the philosophy is to do both, but focus on how much GAP you can build up.

The bigger your GAP, the more you have yearly to put into your Wealth Machines.

Then you can build wealth.

Step 3. Build Your Wealth Wisely

When you build up the GAP yearly, you have an annual CASH FLOW that you can divert to funding your wealth building on a recurring basis.

Wealth is built when this gap adds to next year’s gap which adds on to next year’s gap and the net year’s gap…. well you get the idea.

In the first 2 sections, optimizing spending and earning more, we are assuming that Kyith builds wealth through putting his money in savings and deposits, which is a low risk form of wealth building method.

Savings is a conservative way of building wealth, but because interest rates are low, all you are doing is putting your hard earned money away.

The money does not make more money, or so they say.

If you want more money, you have to work harder in earning more and be more frugal in cutting expenses.

If you hit a plateau in how much you can earn, then that is your wealth ceiling.

If you want to build up a sum of wealth, of around $500,000, with savings in deposits earning less than 1%, it will take you nearly 73 years from the chart above to get to that sum.

With higher return financial instruments, you will be able to reach your goal of $500,000 at a much faster pace, cutting time by years.

Take a look when the rate of compounding is 7%. The time is shorted to 47 years.

This will enable you to build wealth so that you can adequately meet your retirement spending needs, be financially secure, financially independent.

How can you build wealth at a higher wealth growth rate?

In this following table, I have an example of various ways of building wealth:

The different methods of building wealth have different characteristics and I try to categorize them.

For the experienced wealth builder, you may or may not agree with the categorization.

We are all different, and as such, a wealth building method that suits me, might not suit you. They very much depnd on:

1. Your Risk appetite. How much short term losses can a person take that prevents him to sleep at night?
2. Your ability in acquiring and maintaining a skill to wisely build wealth through that method. Sustainable wealth requires competency and it will depend on your willingness to build this through self learning, finding a mentor, going on courses, self-reflection after acquisitions E.g. learning the in and outs of purchasing a property and renting it out, understanding the returns, pitfalls, and effort require to be profitable for 30 years
3. Active or Passive. How much time do you want to spend on building wealth? Do you want to spend more time with family? Different ways of building wealth comes with different time needed to become competent and also  different levels of recurring managing wealth time. (Read building wealth is not as passive as you think)
4. Your appetite for leverage. Some people have assess to very cheap debts, which others could not. Some people are comfortable holding debts while others can’t wait to pay it off due to the risks involved
5. Start up Costs required. Some wealth building requires a big down payment. One example is properties which may require you to have $200,000 in down payment. This sum may not be available for many. For other forms of wealth building such as Passive Exchange Traded Fund Investing with POSB Invest Saver the minimum start up is $100/mth

The kind of wealth building assets, together with HOW you build your wealth with it, are your Wealth Machine(s).

Think of your wealth machines as cash flow robots that you transfer your human capital (your main job) to so that you depend less on your human capital next time, and they will provide you with the cash flows to be financially secure and financially independent.

If you keep what your Wealth Machines generates, be it interest income, business income, dividend income, realized capital gains, by plowing them back into your Wealth Fund, you can put them back into your Wealth Machine, your wealth will grow at a greater compounded rate of return (CAGR).

I explain more on why you need to look at this important layer in your wealth building, by thinking in terms of funneling your money to a Wealth Fund and having Wealth Machines in this comprehensive article. Do read it and come back to the examples here.

How will a difference in Wealth Growth Rate impact your wealth building?

Lets go back to Kyith again:

• Age Starts Off: 25 Years Old
• Age where we assumes he finish Accumulating Wealth: 55 Years Old
• Number of Years Accumulating Wealth: 30 Years
• Monthly Gross Income: $2,500
• Number of Months of Bonus: 2 Months
• Government Tax % (or Forced Savings): 20%
• Disposable Income %: 80%
• Annual Wage Growth: 3%
• 1st Year Wealth Funding %: 10%
• Subsequent Wealth Funding %: 50%
• Wealth Growth Rate: 0%

Kyith decides to make an insurance savings endowment his Wealth Machine or wealth building method. This is not uncommon and a form of wealth building that many conservative people chose.

When you purchase an insurance savings plan, you either pay a lump sum in premiums or an annual recurring fixed amount from your disposable income as premiums into the insurance policy. You transferred the job of wealth building to the insurance company. (you can take a look at my compilation of some past insurance savings policies and their rate of return)

Kyith conservatively think he can make 3%/yr in compounded average growth compared to 0% previously.

We changed the following:

• Wealth Growth Rate: 3%

Instead of previously building up a net worth of $330,055, channeling to a 3% compounded insurance policy grows Kyith’s net worth to $456,912 instead.

Kyith decides to be motivated about wealth building.

He reads books, find mentors and does his own due diligence, in short, builds up his competency and changes his Wealth Machine to managing a Low Cost Passive Stock and Bond Exchange Traded Fund  (read here).

He knows that this form of Wealth Machine means his wealth would have increase volatility (sometimes positive sometimes negative, more ups and downs), but it takes him very little management yearly, and have the potential to earned a 6%/yr rate of return.  The potential of wealth build looks higher.

We changed the following:

• Wealth Growth Rate: 6%

Instead of a $452,912 net worth, a 6% compounded wealth rate of return over 30 years will grow Kyith’s wealth to $662,121.

You will notice that the amount Kyith put in (blue line) versus the amount eventually grow to is much wider than previous.

This is due to the beauty of compounding over time.

3% and 6% Wealth Growth Rate is scratching the surface here. In the chart above, we see how Kyith’s net worth will grow when the wealth growth rate changes.

I summarized the example above, where Kyith puts decides to put 10% of 1st year disposable income to wealth building, 50% of subsequent year’s declared increments, 3% wage growth.

You can observe the net worth changes at 5 year intervals.

Also, I have tabulated the difference in $ and % between 0% and 3%, 3% and 6% and 6% and 9%.

You will observe a few interesting facts that may influence how you look at wealth building:

1. The differences between building wealth at a higher rate is small initially but over time the difference is big. The power of compounding over time makes a big difference.
2. The interval difference is rather uniform between 0% to 3%, 3% to 6% and 6% to 9%. This may mean that sometimes you don’t have to be pressured to increase your Wealth Growth Rate by taking on more volatility and risk. We will go through this in depth later in what makes the most impact to your wealth building
3. The counterpoint to #2 is that you are missing out on huge wealth if you do not step up wealth building from 0% to 6%.  Just add up the 2 gap difference and you can see the difference
4. If we talk about the magnitude of wealth building that makes a difference, 25% difference is big enough, and that usually take place after 20 years. What we can infer is that at certain times, putting more of your disposable income to wealth building have a bigger impact then trying to grow your money through wealth building at greater efforts. (I written an article on when you should focus on putting more of your disposable income to wealth building and when your wealth building competency matters more here)

There are many ways to build wealth, and you require different competencies, different commitment levels, but if you are really good at what you do, and is able to jump from 3% growth rate to 9% growth rate, you realize that you need less money to reach your eventual net worth goal.

Lessons Learn: Building wealth by taking different approaches can give you higher growth, but the wealth builder have to take a prudent approach otherwise it will result in more detriment then good result.

What makes the MOST IMPACT to Your Wealth Building?

Lets recap. We know that by optimizing your spending and earning more, perhaps taking on some side hustles, we increase our positive cash flow or the wealth gap.

We can put this positive cash flow to wisely build our wealth, so that we do not always have to depend on pure savings.

You may realize that there are many variables which may determine the size of eventual wealth.

Which of these variables matters the most?

More importantly, which of these variables are within your control?

Some time ago, John Rekenthaler, head of Morningstar research wrote a piece called What matters the most.

It’s a good read. You may need to create an account to login.

John highlights a company that profiles an average aspiring retiree:

• 42 years old  employee
• Makes $40,000 annual
• Salary grows 3% annually
• No contribution to company investing account but will contribute 6% of income annually to the company account and the company will match it with 50% of the person’s contribution
• The company investment is a passive portfolio with a 0.72% expense and looks to gain 7% per year before this cost
• This person looks to retire at age 67 years old (25 years later)

What course of action will help this person the most to reach his/her goal?

1. Start early. Find a time machine to go back and start earlier
2. Higher salary. Get a 25% raise to $50,000 a year
3. Salary growth. Grow his or her salary at 4% instead of 3%
4. Increase wealth funding rate. Instead of funding 6% of the annual income, choose to fund 8%
5. Increase company match. The company willingly increase how much it matches the employee’s contribution rate
6. Cheaper investment plan. Instead of 0.72% expense, switch to a plan similar but cost 0.22%
7. Better return fund. Get a fund that yields 8% instead of 7%
8. Retire later. Wait 2 more years to retire, instead of 67.

Among these actions, which are the actions that he or she have a direct control over?

• 1 – Choosing when to start investing
• 4 – Increase funding of wealth building
• 8 – Retire later
• Partially 7 – a Better return fund. A better way to look at it is taking a more active approach

They did a study to determine based on this person’s profile, which would help the person more. The result is below:

The great thing is that the top three are the things that are within the persons control. The surprising thing is that cost (cheaper plan) matters so little, which they attribute to the original plan is relatively not expensive in the first place.

In the following section, I will expand on the variables that makes the biggest impact to building wealth.

1. Start Funding Your Wealth Building Early in Your Life

The amount of money you need to commit to wealth building, and the amount you build up varies by funding it early versus funding it late.

Consider the above 3 scenarios, the first one (Early) where the person funds wealth building with $6,000 of his take home income annually for 16 years from age 20 to 35 years old. the second one (Late) funds his wealth building with $9000 (more than mr Early) of his take home income annually from age 36 to 65 years old or 30 years and the last guy (Early and Continue) who did the same as the first guy (Early) only thing he continued to 65 years old or for 46 years. All of them build wealth at the SAME RATE OF RETURN.

The interesting thing is that Early build more wealth than Late but with LESS MONEY COMMITTED. You can liken this scenario to someone who committed to wealth building early for 16 years and then uses that $6000 for other part of his family’s expenses. Such flexibility!

The third guy (Early and Continue) did the best with the same amount of commitment as Late, and gotten at least $400k more wealth.

The 3 options here for you is that you can:

1. Cut Spending, Earn More and put a high percentage of disposable income at the start to your Wealth Machine, then spend a higher percentage of subsequent income increments
2. Cut Spending , Earn More and put a small percentage of disposable income at the start to your Wealth Machine, then ALSO put a higher percentage of subsequent income increments into your Wealth Machine
3. Cut Spending, Earn More and put a high percentage of disposable income at the start AND a higher percentage of subsequent income increments into your Wealth Machine

The difficulty for most to do (1) is that cost of living might be high and large spending takes place at the start.  (2) will be more applicable for them. (1) Work well for singles.

It make sense to funnel more to build wealth and let compounding work its magic AS EARLY AS POSSIBLE.You need less of your take home income to reach the desired amount over time when you fund wealth building early than late

2. Put a MUCH Larger Sum of your Income into your Wealth Machine(s)

Note: those that are less investment savvy should pay attention to this factor.

You have many ways to fund your wealth building:

• Choose to fund 10%, 20%, 50% or even 70% of your disposable income annually to wealth building
• Choose to fund a higher initial disposable income (50-70%) and then less of your subsequent annual increment or a lower initial disposable income (5-15%) and then a large part of your subsequent annual increment

Or course if you fund more into wealth building you have less for your other life’s expenses.

What is the upside for us to be so drastic to fund 50-70% of our take home income to wealth building?

Increasing the % of income put into wealth building shortens the length of time towards your financial independence or wealth goals

For one thing, we are all working towards our financial independence, that is when the wealth that we build up is able to afford our life more freedom to semi-retire, or take a more risky life endeavor.

What many do not know is that how fast you can reach financial independence depend greatly on the amount annually you use to fund your wealth building AND the rate of return of your Wealth Building Method.

If you fund little, you take a long time to reach that stage. If you fund a lot more, it becomes faster. If the rate of return per year of your wealth building method is small, it will take longer, if it is high, it is faster.

This can be illustrated in the chart above.

This chart shows the number of years to reach financial independence versus the percentage of take home income a person or family channels to building wealth. The various different color lines show different rate of returns per year of the wealth building method chosen.

Observe that

1. if the amount of take home income channel to wealth building is lower at 10%, the rate of return of your wealth building method determines greatly when you reach financial independence, in 84 years or 20 years
2. if you channel 50% of your take home income to wealth building, whether the rate of return is 1% or 20%, it matters much less. You will reach your goal in either 9 years or 23 years
3. if you only know of wealth machines that generate a rate of return of 1%, then to retire in 20 years, you need to save at least 50% of your take home income

This means that even if your wealth building method yields 1% per year, you will reach financial independence at age 48 years old if you start working at 25 years old.

Here is another view where we show the above chart in numbers.

The numbers in the red and green cells show the number of years to reach the desired financial independence amount (whether it is $100k, $500k or $1 mil).

It gives you extra motivation to earn more or spend less, because the more you earn and less you spend, you will be able to achieve a high savings rate, or wealth funding rate.

When you move on from being a junior associate to manager, the earlier you are able to do that, you may be able to channel 70-80% of your disposable income. Even at a 1% wealth building rate of return per year, the number of years to reach financial independence is between 10 years or 6 years!

The best optimization is when you and your spouse are aligned and want to reach financial independence, where both of you can optimize your combined income to channel well to wealth building after optimizing expenses.

Usually it is when you have combined income or a higher earning professional that 70-80% is possible.

For myself, I am working with a 50% disposable income savings rate, which will take me 15 years or so to reach financial independence as a single.

If you increase the % of your income put into wealth building, your investment rate of return matters lesser

Other than reaching your wealth goals earlier, there is one added benefit of funding more to wealth building, and that is reaching financial independence despite not being so sophisticated when it comes to wealth building.

Suppose you decide to channel $5,000 per year from your disposable income to wealth building, starting at the age of 25 years old.

For the next few years, you have 3 different option to increase the amount from your disposable income you put into funding wealth building every year by 0%, 5% and 10%. (think of this as similar to the earn more examples)

You also have 2 different Wealth Growth Rate:

• 3.5% per year (E.g. bonds, insurance endowments)
• 7.0% (E.g. stocks).

How fast can you reach your goal for financial independence, in this case $500,000?

Observe that to reach $500,000, the number of years with no funding increases growing at 7% p.a is close to 5% annual increase growing at 3.5% p.a.

This is the same for 5% annual increase growing at 7% p.a. and 10% annual increase growing at 3.5%.

Here is another way of looking at this.

The table above illustrates how many years it will take you to accumulate $300,000.

$300,000 is a worthwhile goal and many felt that you need to pursue some sort of active investing to accumulate that.

If you put $200/mth or $2,400/yr towards that:

• 0% rate of return: 125 years
• 3%: 52 years
• 6%: 36 years
• 9%: 29 years

Your rate of return matters a lot!

However if you put in $1000/mth, the difference between investing at 3% (conservative bonds) versus 6-9% (more risky investment products) is 3-5 years!

If you commit $2,000/mth, the difference is 2 years between a rate of return of 3% and 9%.

If you make the decision to pay yourself first, fund more of work income to your wealth building, you do not need a higher return to achieve your goal for your wealth machine.

To obtain higher returns, in most cases you need to subject your capital to higher volatility, or putting in more effort so as to build wealth wisely, which you may not have

Since higher return usually comes with higher risk and volatility, this shows that by putting more of your disposable income over time to building wealth, you do not need to increase your risk level, especially if you traditionally have a low risk appetite.

This decision is important AND within your control.

A good example here is that many people always gets sub-consciously influence by friends saying that their money should be pushed as hard as possible to get the most returns.

If you understand this concept, you will see that if you focus on your career or that, your career is much more lucrative than others, by sensibly increasing your funding to wealth building above the average, say 50-70% of your initial take home pay and 50% of your incremental pay, you do not need to push your money that hard if you understand how much you actually need to achieve financial independence. As you are funding more, you can put majority of your wealth assets in insurance endowments, bonds and 30% in a broad market stock exchange traded fund, compare to your friend who is funding less, who have to put 100% into a broad market stock exchange trade fund.

Your return might be on average 5% compare to your friend’s 7%, but as you are funding more, you end up at the same destination. A side note that is out of the context of discussion is that, because you put your wealth assets in lower volatile instruments, you get less of the extreme swing in the value of your wealth assets, there by less psychologically affected to do stupid things like sell low instead of buy low.

Do You Focus on Putting More of Your Income Away to Build Wealth or Spending more time on Investing?

We only have so much time to do the things that we want.

And for some of you, your job and family takes up much of your time.

So the question you may ask is: How important is learning to achieve a greater rate of rate of return by focusing on building your wealth machine?

The opportunity cost of that is, you may have less time and focus on your job. This could impact your career trajectory.

The benefits is that your business, or your wealth machine(s) can reduce the single cash flow risk of your job, or may develop into something that eventually becomes a substantial chunk of your personal cash flow.

In Focusing on Saving More Versus Focusing on Investing: Are you Being Smart about It , I provided how you should evaluate this decision.

Your investing return on a small capital base at the start will be small.

Much smaller than the annual increments you can work on, had you focus on improving your ability to earn more.

Thus at the start of the career, if you earn more, you have more disposable income.

You can then channel more of this increase disposable income to your wealth machines.

This is like a 50-100% return on capital. Hard to achieve with investing.

However, at some point, your wealth machine(s) are well funded.

Suppose they get to $500,000.

Losing 50% of $500,000, is not a small sum. Making a 50% return is $250,000. It may take you 10 years of saving to get that amount.

At an annual 5% rate of return, your $500,000 can provide $25,000/yr or $2083/mth in cash flow.

That can substantially provide financial security.

To have a wealth machine, you need to have wealth building competency. To have wealth building competency, you need to learn about investing, execute, reflect on mistakes and success and tune accordingly.

You need to invest upfront and recurring effort.

This is a paradox that you cannot run away.

Ideally, we need to do both, earn more and learn to invest.

You need to Put the Big Rocks In First

Why are we talking about big rocks and small rocks?

Because we need to discuss priorities in life.

Many people have illustrated this experiment of trying to get all the rocks of different sizes (large boulder rocks, pebbles, sand) into a container.

And there are different methods to attempt to do it.

However, you will realize you cannot get all the rocks into the container unless you put them in a certain sequence:

1. Put the big boulder rocks first
2. Put the pebbles next
3. Put the sand last
4. Then you filled it with water

You might not get all the water and sand in.

The art of Manliness has a better illustration:

The big rocks and small rocks is an analogy of what we prioritize in life.

Here is how we look at Wealthy Formula in Rocks:

• Which of the things in life allows you to build wealth?
• Out of these things that help you build wealth, which one makes the most impact?

The answer of this could be:

1. Earn More, Optimize your Spending
2. Investing Wisely
3. What I gone through about making the most impact: Build wealth early, and putting more of your income to building wealth

Those are your big rocks.

And you should get them in before the small things like:

1. Which stock should I get?
2. Should I invest in stocks or bonds or cryptocurrency at this point?
3. Should I go for motor cycle A or motor cycle B?

If you put the big rocks of wealth building in, your wealth building should not go too wrong.

The small rocks will help you get to where you are, but in their absence, you will take slightly longer but will eventually reach your destination.

How my wealthy formula was applied on myself

I have never earned spectacularly on my human capital over the years and my Wealth Growth Rate is nothing to shout about.

And that makes it possible for YOU to do what I did.

If you decide to do your best and apply what I showed you up to this point:

1. Optimize your spending and strive to earn more. You will funnel 40% of your 1st year disposable income of  $3,000 with 2 month’s bonus into building wealth. Subsequently 30% of your annual increment of 3% will go to building wealth, together with that initial 40% of your 1st year disposable income.
2. Learn to build wealth wisely. You decide to quarterly invest in a passive portfolio of stock and bond exchange traded fund as your Wealth Machine, growing your wealth at 4%.
3. Start early. You decide to start wealth building out of university and will have 30 years till age 55 to build wealth.
4. Contribute more

You would have funded a total of $580,360 to building wealth and with your Wealth Machine, the wealth would potentially increase to $1,011,109.

Your annual gross salary will grow from $42,000 to $63,528 to $98,975.

What was a 40% contribution to wealth building out of disposable income slowly went down to 34%.

Your annual available spending amount will grow from $20,160 to $32,216 to $52,066.

At 15 years, you would have build up a net worth of $312,199.

If you withdraw a cash flow of 5% from $312,199 per year, the cash flow will amount to $15,609/yr or $1,300/mth.

$1,300/mth won’t offset all your expenses to reach Financial Independence, but it may just be enough to offset your basic survival expenses to give you the courage to take that risky career switch you wanted.

This is Financial Security.

Related: How much Wealth and Cash Flow you need to achieve Financial Independence and Financial Security?

Case Study: How a high income earner who hopes to be Financially Independent by 40 can achieve it with the wealthy formula

So we hear stories, of people who was able to retire in their 30s and may probably be envious of their situation.

They must have rich parents or high income earner.

How close to the truth is that?

Perhaps some have overestimate what is required to retire, but financially independent is possible.

If we failed to see the MATH, especially those discussed today, then they will always have some special luck allowing them to do that.

You reaped what you sowed.

Some folks have worked hard in school, or managed to get into a profession with a high starting starting pay, would he or she be able to be financially independent at a young age?

The premise

In our simulation here, we have the following scenario

1. Stay single and choose not to get a dwelling
2. Assuming he is privileged to start off with a high salary relatively. He will funnel 80% of his initial disposable income of  $5,000 with 2 month’s bonus to building wealth.
3. Subsequently 20% of his annual increment of 3% will go to building wealth.
4. Learn to build wealth wisely. He decides to quarterly invest in an active portfolio of stock and bond exchange traded fund, growing his wealth at 6%.
5. Start early. He decides to start building out of university and will have 15 years till age 40 to build wealth.

At the end of 15 years, he would have accumulate a net worth of $1,095,146. Note that an assumption here is that he would have to build wealth rather wisely.

He funded $44,800 of his first year disposable income into building wealth.

At the end of the 15 years, his wealth funding only increase by $5,740 more.

At this point, with a safe withdrawal rate of 3% per year, he would have generated $32,654/yr in cash flow or $2,737 per month, which will be able to take care of the necessities in life.

This is a good situation to be in.

We can see many examples of top performers excelling in school. If they take advantage of their education to gain good employment and be able to sacrifice extravagant spending to create financial security, or independence, he puts himself in a good position for the second phase of his life.

You are young enough to choose how to live the Second Phase of your life

What this means is that at 40, this guy is young enough to make a profession decision that will more likely satisfy him.

He could have choose to find love then.

He can choose to start a business with the knowledge he has accumulated up till then.

Can anyone live on $11,200 per year?

A common question readers will have is how can anyone survive on such a low amount per year?

This will work out to $933 per month in expenses.

How one decides to live is a matter of where their values and priorities lie.

Different people have different values and a person like that may be sacrificing much (you can’t earn back time), but that is his or her choice.

$933 is a sum that you can work with, you have to optimize your spending.

And at the end of the 15 years his allocation to spending actually increased to $34,000 per year.

Believe that you can achieve it

Remember at the start, we ask the question why less of your friends actively pursue it and one of the key reason is down to motivation?

Motivation and knowing how to do it is related. (Read: why motivation, grit and determination is important to building wealth)

If you do not know the blue print how to get started in building wealth, how much you need, you have the idea that the end goal is so far up, and you are so far down you could procrastinate on it.

Knowledge allows you to see that in reality, through systematic steps, it is achievable, in different ways.

Gather Knowledge and Wisdom to Know how to Build Wealth Wisely

For us, building wealth is unlike playing a professional tennis match.

In a professional tennis match, the professional tennis player wins by performing well and outdoing another professional tennis player. That requires high competency.

If we play recreational tennis, we outdo our friends by making less mistakes.

To build wealth well you need to learn:

1. how to actually build wealth in your wealth machine
2. what not to do in your wealth machine
3. find out the 20% of what determines the performance in your wealth machine
4. what you need to know, but you do not know now
5. what you won’t know, and how to tackle this unknown

Read: acquiring knowledge and wisdom is important to building wealth

Proactively build systems and processes to make actionable progress

This may push you to take actionable steps, create your wealth system and processes.

The great motivational speaker Jim Rohn said: “Life doesn’t get better by chance, it gets better by change.”

Take proactive steps.

There is a difference between reading up on wealth and becoming a wealth builder.

Many I know, are only interested in reading up on wealth and imagining being wealthy. They are more into financial porn.

Only when you inculcate actionable tasks into your daily and weekly life that revolves around wealth, can you achieve the reality.

Summary

If you manage to reach here,  congrats!

You may just have the grit and motivation to build wealth.

To be wealthy is simple. The reality is that you have to

1. Stop giving yourself excuses, take action today and find ways to optimize your spending
2. Never let go of improving yourself to stay employable, get promoted at work
3. If you believe in financial freedom, pick up one of the wealth building methods to grow your wealth further
4. Sacrifice things that hold low value to you to funnel more to build wealth
5. If you are constraint and are unable to fund a high amount now, commit to use your increment to fund wealth building. I shown that it is a viable route.
6. The less mistakes you make, the more wealthy you become

80% of what is  suggested are within your control. It is whether you will do it.

Pick out one area that you need to improve and work on it. Share with me what are the potential problems building wealth this way.

Share this with your friends who you think will benefit from.

If you are interested in calculating how your wealth would grow, I have created a FREE Wealthy Calculator here (which we use above) to project how much of your income you would like to channel to building wealth today and the wealth build at the end of X years.

After learning the simple way to start building wealth, let me share with you

1. how much you need to achieve Financial Security or Independence 
2. why Wealth Machines are different from financial assets, and why you need Wealth Machines
3. why motivation, grit and determination is important to build wealth
4. why knowledge, wisdom is important to build wealth

Grow Wealthy, start Building Wealth, start with the Best Resources section.