Look at your own budget, or any others you can find. They are based on management of pay and assets– apparently logical, but in reality misleading and costly Lukas Lindler. How does it make sense to manage assets before you create them? But pigs will fly when the industry discloses procedures that put money in your pocket, instead of providing info and advice based on marketing hype that puts profits in theirs.
You may have to think about this, because it’s contrary to your present ideas about managing money.
You’ve heard homilies like… “save 10% of your income… maximize your contribution to ira (US) or rrsp (Canada)… pay off high interest rate or biggest debts first… make room in your budget for regular investing… etc.” It’s the only kind of information we’ve had and it’s the basis of ideas about how you should manage your finances. Unfortunately, it’s based on marketing hype. They want you to use their products– loans, savings accounts, ira or rrsp, mutual funds, etc. in your daily financial management.
We need information about procedures, not products, but don’t expect it from your favorite financial planner or advisor. Proper use of their products can make a dramatic change in your finances, but it reduces their profits!
“Financial planning” is information for managing wealth, and it simply can’t work for creating it– your wealth originates from everyday financial activities. Basing decisions on ‘financial planning’ concepts is the reason for most personal and family financial problems. Worse, government statistics show very low probability of financial success at retirement; odds that have not improved since records have been kept in spite of higher incomes, better education, pensions and government safety nets, plus the combined advice of hundreds of thousands of financial planners and advisors.
The reason: financial planning is based on budgeting your pay. This means you ignore your earnings. It’s the only time in all financial accounting that ignoring income is a “generally accepted” procedure.
The result is financial problems– some you don’t even know you have! Replacing your present concepts with new Wealth Creation financial management can put hundreds of extra dollars a month in your pocket, tax free. And that’s only the start! People like you are making remarkable changes in their financial lives by changing their ideas about personal financial management.
To set the stage, imagine there is no income tax. You are paid what you earn, so if you earn $1,000 that’s the amount of your pay check. If you want a widget that costs $100, there’s no income tax, so $100 is what you earn to pay for it.
Dream over! What you earn is not what you’re paid, because income tax is either deducted from pay, or you set aside money to pay it. If your overall tax rate is 25% and you have other deductions of $100, when you earn $1,000 your paycheck stub will show:
Income tax: $250
Other deductions $100
Call this an income stream and go a step further. All deductions other than income tax are really part of your budget, withheld as a requirement or convenience by your employer. So your main income stream is:
Earnings: $1,000 >> less $250 tax >> $750 to budget.
What does this have to do with the cost of a widget? The price of your widget is what the vendor gets– $100. But its cost is the amount you had to earn to have $100 to pay for the widget, and the time you put in earning it!
As for tax, the next dollar you earn will be taxed at your top tax rate, as will income used for the next dollar you spend. Check your tax return to see the tax bracket you’re in. Your top tax rate is the rate in that bracket and it’s always your “effective” tax rate. For the average person it’s about 40%.
At an effective tax rate of 40%, the cost of your $100 widget is
$167 income >> less $67 income tax >> $100 for widget.
If earnings average $20/hr, the widget costs over 3 hours at work!
Now we can attack the problem. If you have to earn $1.67 to pay for a $1.00 item, your “tax factor” is 1.67. Multiply the amount involved in your next financial decision by your tax factor to see the income streams involved. You should do this with every financial decision.
First, use it first to tighten up your “shopping attitude”. For example when you know the time you’ll have to put in at work to buy your widget, you’ll think about whether you really want it. If you still do, buy it– that’s what your money is for. But if you don’t buy it, at least for now, you’ll have more money for things you really want. Do this with every expense, even that extra cup of coffee. The little ones really add up!
Reducing impulse buying is not penny pinching; in business it’s called common sense. Everyone is an impulse buyer to some extent: your new shopping attitude should increase savings ability (sa) by $100 to $500 a month or more. Tax free!
This is the initial step in Wealth Creation. In future articles we’ll maximize savings ability to about 1/3 your income, after that we’ll use the tax factor for profitable financial planning (real financial planning), and then we’ll start converting resulting savings to wealth!