What is the relationship between Income and Net Worth?

When we were at school or university a great many of us believed to be successful financially and in life we need to work hard and get good marks so that we could get a good job. Then when we get out into the work force we find that everyone starts at the bottom on pretty basic pay levels. And so we begin our adult lives.

In our 20’s, we don’t tend to worry about anything. We’re all going to live for ever and besides, there’s good times to be had. Everything we earn gets spent.

In our 30’s we’re getting good at our trade and cementing our careers. The early starters if they haven't already, might even be considering settling down and getting mortgages.

In our 40’s our income is growing (finally/maybe), the kids are young and we spend big, the mortgage certainly isn't getting any smaller.

In our 50’s the kids are getting older and the rain making days kick in thank goodness because the mortgage is huge, the kids are still under foot and we come to the realisation that no one lives for ever. The idea of retiring someday is coming into view.

I won’t go any further. You get the picture. My guess is pretty much all of us fit into these broad generalisations – to some degree.

When you’re on the treadmill of life do you ever think about difference between your income and your net worth and the relationship between the two? Sure, your income is the thing which leads to your net worth but are the two really connected?

Think about a business executive earning $250k plus a year who actually had a negative net worth. At the other end of the extreme there is a public servant who has a net worth of over $500,000 not including her family home.

Who has more Wealth?

I work with some seriously wealthy individuals from varied occupations, backgrounds and education levels. Their level of wages income which is also hugely different, has very little to do with their level of wealth. It’s what they saved and invested during their wage earning years that made the difference.

The business executive client I mentioned above earns big money by most people’s standards but he also had big out goings so he could never get ahead financially. The public servant on the other hand, intuitively understood the illustration below and put it into practise.

A really rough calculation shows that someone who is 40 years old and contributing 15% of their $80,000 wage could be a millionaire by the time they are 67 and have $1.2 million by retirement. Considering the retirement age for a 40 year old is likely to be 70 it’s not a bad result. This assumes their wage grows at 2% pa and a 6% net of tax earning rate.

Anyone who doesn’t get this will probably retire broke or worse, have no option but to continue to work until they die.

Employer superannuation will help, but for most of us that’s only 9.5%. To get serious you’ll need to consider topping the total amount you are saving up to at least 15%.

Let’s have a look at your Net Worth.

Net Worth is simply everything you own less everything you owe. Assets minus liabilities.

[1]The average net worth for Australians 2015/16 was $929,400. Not bad and probably goes a long way to explaining why there are so many shiny new cars on the road. BUT….the average property value was $626,700. So if you take away the thing which keeps the weather out, the family home, you’re only left $302,700. Not that much when you consider this is all most households will have to put food on the table for maybe 20 years of retirement.

It’s made worse when you consider 74% of households were in debt. Of these, 27% were servicing a total debt that was three or more times their annual household income levels which is considered the point at which people are in financial stress.

How do you compare?

Now calculate Assets Total minus Liabilities Total

=……………………………….Your Net Worth.

Notice I haven’t included cars or your family home in this calculation. These are what I refer to as lifestyle assets. No one sells lifestyle assets to put food on the table and part of planning is making sure this is taken into account.

For most people, this exercise presents a stark reality. Regardless of how much you have (or don’t have) there is always the potential to improve your Net Worth and grow your wealth.

If your Net Worth isn’t where you think it should be or if you’re worried that there won’t be enough to retire with, the good news is you can make changes to get on track.

We help clients with financial certainty and it doesn’t have a lot to do with the level of income you’re earning. Chances are we’ll provide you with ideas and strategies you haven’t heard before and none of it involves taking crazy risks or getting you into crazy levels of debt.

Start by speaking to us. If you’re wanting to get on track, we’re are very serious about wanting to help you.

[1] Statistics provided by the ABS 6523.0 – household Income and Wealth, Australia, 2016-16