This year marks the 20th anniversary of The Millionaire Next Door, published in 1996 by Thomas Stanley and William Danko. It addresses a simple question asked by hard-working Americans for decades: "Why aren't I as wealthy and prosperous as I should be?".
In the decades since 1996, one thing hasn't changed: Americans are still confused and misinformed about the true path to wealth. The inner workings of wealthy households are illusive, especially as media portrays affluence as extravagant hyper-consumption. In a new 21st century preface, Stanley emphasizes that the 20-year old wealth accumulation roadmap is more relevant than ever. We are told the American Dream is obtained through hard work and living below your means. So, if you want to be wealthy, what should you actually be doing?
If you learn anything about wealth from The Millionaire Next Door, it's that wealth is not the same as income. If you have a high income but an inability to save and invest, wealth is not achievable. Wealth is what you accumulate, not what you earn. The secret to accumulating wealth is that there really is no big secret. Wealth is more about hard work, perseverance, planning, and self-discipline than beating the market or getting in on an exclusive investment. The path to becoming a millionaire is actually...boring.
According to the authors, there are 7 common denominators among those who successfully build wealth:
- They live well below their means.
- They allocate their time, energy, and money efficiently, in ways conducive to building wealth.
- They believe their financial independence is more important than displaying high social status.
- Their parents did not provide economic outpatient care.
- Their adult children are economically self-sufficient.
- They are proficient in targeting market opportunities.
- They chose the right occupation.
Wealth Accumulators
There are two types of wealth accumulators: Prodigious Accumulators of Wealth (PAW) and Under Accumulators of Wealth (UAW).
How do you determine which you are?
Multiply your age times your realized pretax annual household income from all sources except inheritances. Divide by ten.
This, less any inherited wealth, is your ideal net worth.
Example: Mr. X is forty-one years old, makes $143,000 a year, and has investments that return $12,000. He would multiply $155,000 by forty-one then divide by 10. His net worth should be $635,000 ($155,000 (10) = $6,355,000 / 10 = $635,000).
On average, PAWs are worth twice the level of wealth expected (for Mr. X that's $1,271,000). UAWs are worth half of the level of wealth expected ($317,750 for Mr. X).
Becoming a Millionaire Next Door
Below are behaviors to implement on your journey to the millionaire club:
1
Efficiency is an essential component of wealth accumulation. Wealthy people allocate time, energy, and money to enhance net worth. On average, middle-income PAWs spend 8.4 hours per month budgeting and planning while UAWs spend about 4.6 hours. Allocate time to key parts of building wealth (budgeting, planning, investing) and/or hire a financial planner to help.
2
Operating a household without a budget is akin to operating a business without a plan, without goals, and without direction. The foundation of wealth accumulation is defense. Defense is budgeting and planning while offense is saving and investing. Winning requires both a good defense and a strong offense.
3
Minimize your realized (taxable) income and maximize your unrealized income (wealth/capital appreciation without cash flow). This can be achieved by setting aside 15 percent of pretax income for investments, maxing out your 401k, and prioritizing appreciable rather then depreciable assets.
4
Financial independence is more important than social status. Live below your means and minimize depreciable assets like cars, clothes, electronics, etc.
5
Dependent adult children drain financial resources. Studies show children inherit the spending patterns of their parents so strive to model discipline and frugality. Minimize discussions of what children (and grandchildren) will inherit. While PAWs often pay for children's education(s), they also emphasize the importance of self-sufficiency as adults.
6
A willingness to pay for sound financial advice improves results. Investing without knowledge can result in financial loss. An advisor can help you make smart decisions that align with your goals. Always properly vet advisors and choose one with credentials and experience that align with your goals and values.