Better Financial Literacy May Help The Racial Wealth Gap

I grew up in a racially diverse Bronx neighborhood. It wasn’t until I worked on Wall Street as a financial professional that I encountered people with homogenous backgrounds. Specifically, my colleagues were mostly white people who appeared to be far more advantaged compared to me. As a grad of public schools and a public college, I felt uncomfortable and out of my league. The awkwardness faded over time. One of my bosses actually called me “a junkyard dog” and meant it as a compliment.  With my successes, my confidence grew, but I can still feel that insecurity today.

We come from different backgrounds, not of our choosing. While some may be entitled, many are underprivileged based on demographics. Looking at the statistics, African Americans suffer the greatest of disparities in social and economic inequalities. Social justice is way overdue, and reforms in our criminal system are needed. African Americans face more significant financial gaps in income and wealth than their white peers and other minorities.

Statistics Are Revealing

While I was aware of racial disparities, my research for this blog was eye-opening for the gaps’ magnitude. Statistics tell a story that needs to be shared. More than 4 in 10 Americans say the country hasn’t made enough progress toward racial equality based on a Pew Research 2019 study. However, 8 in 10 blacks say the government hasn’t gone far enough to give black people rights on par with white people. Fully half of blacks say it’s unlikely that the country will ever achieve racial equality.

 Common Factors Believed To Cause Racial Disparities For Blacks Are:

  • Substantially less fair treatment by the police and the criminal justice system;
  • Family instability;
  • Less access to good schools;
  • Lack of jobs;
  • Treated less fairly in the workplace;
  • Difficulties when applying for mortgages or other loans; and
  • lower quality medical treatment.

 

The question I often raise comes from the perspective of financial gaps. That is, whether improving financial literacy can narrow the economic divergences that exist for African Americans? These disparities are not new and remain visible in our society. However, for many, including myself, differences do not exist in our everyday lives. For minorities, especially Black Americans, they impact job prospects, wages, loans, and retirement savings. Financial education cannot wipe away systemic policies stemming from longstanding racial discrimination and accumulated inequalities. It is hard to stamp out these income and wealth gaps in our country that have existed for so long. However, at some point, now especially, it is time to recognize those gaps and find ways to narrow them.

Financial education can make a dent in the gaps in wealth between White and Black Americans. It cannot do so entirely without widespread intervention from the government and private sectors to lessen and erase policies that perpetuate these gaps. However, there may be ways that financial literacy, new technologies, and funding for new businesses can improve African Americans’ financial lives.

Critical financial gaps for African Americans Are:

  1. Less household income, earning about 58% of whites.
  2. College education doesn’t decrease the wealth gap.
  3. Higher unemployment, especially in downturns.
  4. More likely to earn the federal minimum wage (3%) versus 2% for white, Asian, and Hispanic workers.
  5. A smaller percentage of homeownership with more significant difficulties attaining conventional mortgages.
  6. Carry higher debt levels, including credit cards and student loans.
  7. Nearly half of black households are unbanked or underbanked, resulting in less access to financial products. McKinsey found that banks would realize $2 billion in incremental annual revenue if black families had the same access as white families. Overall, their report suggested narrowing the wealth gap for blacks would increase our GDP by 4%-6% by 2028.
  8. Only 54% of Black and Asian employees work for an employer who sponsors a retirement plan vs. 62% for white workers.

Different Realities of White and Black households

 

1. Black Households Earn Less Income

White households earned a median income of $61,200 compared to $35,500 for black peers. Their homes may earn less income than white families because more of their jobs pay wages closer to the minimum wage level. Earning less income means reduced abilities to expand wealth through more significant savings, paying off debt, and investing money.

Fewer blacks are visibly participating in the highest-paid professional jobs despite completing higher education levels. For example, some of the best-paying jobs are in the finance industry, specifically banking, credit, securities, and insurance. However, women and minorities are less likely to be hired as professionals or managers. According to this report, the African Americans’ participation is highest (7%)  in banking and credit areas while lowest in securities at 4.4%, which is typically more financially lucrative according to this report.

Education on its own doesn’t account for the difference in income or wealth between black and white households. The racial wealth gap expands with higher education. Black families where the head graduated from college had less wealth ($23,400) than white families ($34,700), where the head of the household dropped out of high school.

2. Lower Net Worth For Black Households

Typically, the higher the income a family makes, the higher the wealth accumulated. Net wealth or net worth’s calculation is assets minus liabilities. White families had a significantly higher median net worth at $171,000 or 9.7 times that of black families with $17,600 in net worth. While 19% of black families have zero or negative net worth, only 9% of white families generate zero or negative net wealth.

Two factors may account for the lower levels of wealth for blacks. First, accumulated wealth tends to rise with age. Over half of the white households were headed by someone who was 55 or older compared with 38% of their black counterparts. Secondly, family structure plays a role in households headed by a single parent versus a married or partnered head. Black households at just 37% were least likely to have a married or partnered head compared to more than 54% for each of the other groups. White households are the least likely to be headed by a single parent (8%).

3. Different Composition of Net Worth

The composition of assets and liabilities of black and white families are very different and tend to favor white families. A more significant proportion of white families (73%) are homeowners, while only 45% of black families own their primary residence. White households hold considerably more significant equity levels in their homes at $215,800 compared to only $94,400 for black households. White homeowners hold more home equity but housing accounts for only 32% of their total assets than 37% to 39% for Black and Hispanic homeowners.

White households tend to have more assets in investment and retirement accounts.

Lower Contribution To Retirement And Investment Accounts

Preparing for retirement is key for all households. 60% of white households hold retirement accounts, notably IRAs and 401(K) accounts, well above 34% of black families. Owning equity in retirement or other investment accounts reflects a more significant difference. 61% of white households hold equity, nearly double (31%) for black households. As such, Blacks have less access to these financial products from company-sponsored plans and fewer savings for emergencies.

Only one-third of blacks have an actual retirement 401K savings plan at work though 73% are in the retirement planning process, according to a 2018 Mass Mutual study. That study reflected that African Americans are the least prepared for a financial emergency, with only 33% having more than one of the expenses saved. Still, 75% view savings as their highest priority.

The best way to save for an emergency fund or retirement account is through your employer. Employees can deposit a portion of their paycheck directly into an automatic savings feature. However, not all employers provide this benefit. When employers offer automatic enrollment, there is usually higher employee participation.

Also, lower-income for blacks hampers their ability to have the liquidity to contribute to these accounts.

Lower Business Ownership

Whites own a more significant percentage (15%) of their businesses, with black families about half (7%) as likely to do so. It takes capital from family, friends, and bank lenders to build your own business. However, black families have had more significant difficulties getting loans at reasonable rates. According to the State of American Entrepreneurship by American Express, 47% of African Americans run their businesses by themselves compared to 33% of the average small business owners. However, black women entrepreneurs are the fastest-growing group in America. That is an exciting development in recent years. You can read our post: Unique Challenges Faced By Black Women Entrepreneurs.

 Family Inheritances For Blacks

White families receive much larger inheritances, or about twice that of black families, according to the Hamilton Project. Among households receiving an inheritance in 2020, those with an economic income of over $1 million are, on average, expected to inherit $3 million. On the other hand, low earners (under $50,000)  inherit $60,000. And so, the perpetuation of the wealthy gets more so.

4. Access to Credit May Be Tougher Causing Higher Debt

Liabilities can depress wealth. White families have a higher proportion of their primary resident’s debt at 46% versus 32% for their black peers. This mortgage debt is “good debt” because it is associated with an asset that may appreciate. On the other hand, black families carry more outstanding credit card balances (48%) and education loans (31%) than white families. Black families may require more student loans than relying on their savings or that of their families, including extended members.

Credit Scores

Our financial lives rely heavily on our creditworthiness reflected by credit scores. Typically, the higher your credit score, the better your access to credit at better interest rates. Black households face credit inequality associated with longstanding discriminatory banking practices. While there have been some improvements, the perpetuation of these practices takes a toll on black families accessing credit. They face difficulties, whether it is for conventional home mortgages or credit card approvals.

According to a 2017 study by the Urban Institute, more than 50% of white households had a FICO score above 700, compared with only 21% of black families. A 700 score is considered a good score for access to credit at better interest rates for most loan types. Still, African Americans, even when accounting for similar income, loan size, and other factors, are more likely to be denied conventional mortgages than white peers. According to a Reveal analysis of 31 million Home Mortgage Disclosure records, black applicants have disproportionately turned away in 48 metropolitan areas.

To some extent, black families lack access to credit, such as credit cards. Having a credit card often provides people with the ability to show creditworthiness. Yet, 32% of African Americans did not have access to credit cards than 15% of whites in the Fed’s 2018 Report of the Economic Well-Being of the US. In that same report, blacks as a group are more often unbanked or underbanked compared to whites. In the US, 6% of adults do not have a bank account versus 14% of blacks. More than a third of blacks have an account and use alternative financial services such as money orders, payday loans, and check-cashing services, which can be more expensive.

Black Households Need Better Access to Financial Products

Blacks have often encountered restrictions or higher fees at traditional banks in black neighborhoods. Those banks may require customers to deposit a certain percentage of their paycheck to avoid fees and account closures. A more significant portion of loan officers is white (82%), with only 9% of loan officers being black. Only 4% of financial advisors of color are designated Certified Financial Planners or CFPs. As such, it reduces their ability to receive valuable financial advice from someone familiar with their background.

Digital banks such as Chime may be a boon for underserved populations such as African Americans. These fintech companies may help break down some of the existing barriers that have restricted access to financial products.

5. Experience Greater Harm From Economic Downturns

During the Great Recession, unemployment peaked at 10%, but it was over 16% for blacks versus 9% for whites. Subprime mortgages, a significant cause of the downturn, were disproportionately higher for blacks and Hispanics. While 26.1% of white households held those loans, blacks had 52.9%,h the most significant exposure group. A 2010 analysis by the Center For Responsible Lending found that even after considering individual credit scores and other characteristics, African American borrowers were more than 30% likely to receive the more expensive subprime loans.

Between 2011 and February 2020, black unemployment fell to 5.8%, near the lowest levels since the early 1970s. However, as the coronavirus brought down our economy, unemployment for blacks rose to 16.7% in April 2020, while unemployment was better at 14.2% for whites. While 30% of whites can work from home remotely, only 20% of Blacks can. The COVID pandemic has disproportionately impacted the Black community in higher virus-related deaths, losing jobs, and obtaining financial relief. Blacks face a double whammy of far more significant economic and health insecurity.

Visible Gaps For Black Americans In Financial Literacy

According to two major reports, the financial well-being of African Americans lags that of the US population. One study was completed in 2019 by the TIAA Institute and Global Financial Center (GFLEC) at George Washington University. This study reported that black participants scored 38% correct versus 55% for white peers. However, black respondents did best in borrowing and debt management and lowest on insuring. Those black participants who were more financially literate were more likely to plan and save for retirement. Mobile payment users of new digital products were more likely to have more significant non-retirement savings.

The Financial Capability FINRA 2018 study found a widening gap in financial capability among groups. Younger Americans with lower incomes and African Americans exhibited less improvement than other groups. Simultaneously, 42% of white respondents spent less than earned, ahead of (34%) of African Americans. In most categories of the study, African Americans fared worse than whites. Also, blacks generally handled financial literacy questions more poorly than Hispanics, reflecting more significant financial stresses.

10 Recommendations For Improved Financial Well-Being of African Americans

African Americans have dealt with inequalities that have burdened their abilities to build wealth. Institutional differences have resulted in longstanding discrimination creating more incredible financial hardships. I am hopeful that the widespread protests across our country this year will result in a far more equal playing field, removing barriers to financial equality. Economists have talked about greater economic growth potential for our country if Black Americans, 13% of our US population could grow at parity. Our recommendations:

1. Go To A Financial Advisor

When developing your short-term and long-term financial goals, it is a good idea to visit with a financial advisor who is a Certified Financial Planner (CFP), which you can read here. Some advisors may be more interested in selling you financial products. However, seek out a CFP who has a fiduciary duty to serve you in your best interests. While there are less than 4% of financial advisors of color, their growth of 12% exceeds that of all CFPs, according to the CFP Board.

2. Emergency Funds

The emergency fund is a great place to start. Where possible, use automatic savings features available at work or through digital banking. Set aside separate savings account for this purpose. Aim for at least six months’ liquidity to have a buffer for your essential costs: food, rent, or home payments (mortgage, utilities, and such). However, this pandemic proves that a year’s worth of savings may be more prudent for unexpected financial emergencies. Invest these savings in securities such as a more liquid cash-equivalent money market deposit account (MMDA), FDIC-insured. For more on emergency funds, please read here.

3. Plan Early For Your Children’s College Education

Establish a 529 College Savings Plan as early as possible. Like retirement savings accounts, these accounts provide tax-advantages. By saving early for your children, you may help them lessen the debt burden long term.  Automate these savings if possible. Find an appropriate fund to invest your money or go with target-date funds that automatically adjust with your child’s age. See our post on Saving For College Early.

4. Save For Retirement Funds

Putting aside money for your retirement accounts is essential. It is less painful when done early and automatically through your workplace, your own 401K accounts, or create your own IRA/Roth IRA. Like 529 savings accounts, there are tax advantages to gain from establishing these accounts. Read our blog on saving for retirement as early as your 20s.

5. Investing In Taxable Investment Accounts

To build your wealth, investing in investment accounts remains vital for your long term time horizon. Studies have shown that 67% of African Americans earning $50,000 or more are investing in stocks and stock mutual funds. With digital technology enabling several fintech companies such as Robinhood, there are more excellent opportunities to purchase stocks in fractional shares without requiring minimum amounts and commissions. While stock investing carries higher risks, they tend to generate higher returns. Using prudent strategies like diversification through low-cost index funds can lessen some of their risks.

6. Spend Within Your Means

Spend less than you earn by having a monthly budget to understand your costs better. Track your spending on an app or whatever is comfortable for you to recognize patterns you may want to change. According to FINRA, only 40% of Americans spend less than their household income. See our post on creating a budget. Review and tackle some of your costs with money-saving ideas.

7. Use Debt Sparingly And Pay It Off

Pay your monthly credit card bills in full, not just the minimum amount. If you can’t pay down all of it, target paying more than the minimum and spend less. Only 32% of Americans pay their credit cards in full. The majority of those who don’t pay the balance in its entirety face a high borrowing rate (15% on average). Additionally, that will stretch out the number of years it will take you to pay down the debt and increase your total borrowing costs.

8. Review Your Credit Reports Periodically

Our financial lives depend on our creditworthiness. Reviewing credit reports for accuracy and for ways to improve your score, enhance your financial flexibilities. Your credit report is not just for lenders but often requested by the landlord, your workplace, insurers, and utility companies. There are ways to raise your credit score so that you can get the best loan rate.

9. Shorter Mortgage Terms Are Better

When taking out a mortgage loan for your home, consider the 15 years versus 30-year terms. You will make higher mortgage payments, but your total borrowing costs are significantly lower by cutting your time in half. The same premise goes for borrowing for vehicles where you pay lower interest overall when your borrowing period is shorter.

10. Insurance Products To Protect Your Family For The Unexpected

If you have a young family, consider life and disability insurance as a means to protect your family, especially if you are the main earner. Look into your company benefits plan to see if you have insurance coverage and whether you have access to lower rates. We discussed  8 Insurance Types You Need here.

Final Thoughts On How To Close The Racial Wealth Gap

African Americans have long suffered inequalities in many aspects of their lives. These gaps, hidden in plain sight, are a result of systemic policies. We reviewed many financial disparities that remain but need to be eliminated to allow for upper mobility for black Americans to be on an equal playing field. Intervention from the government and private sectors’ racial wealth gap, especially financial institutions,  fully relieves these burdens. In recent weeks, many corporations stepped with funding to combat social injustice. They can do more to help.

Efforts to change policies change can reduce large gaps. They can range from improving education, progressive taxation, and employment opportunities, especially in the financial services industry. Accommodating lending should replace restrictive banking policies in black neighborhoods. Banks need diversity with more black loan officers and CFPs ready to serve a needed market.

At the end of the day, better financial literacy can play a role in strengthening black households’  financial flexibility. Learning how to save, invest, and improving your credit when borrowing can pave a better road to building your assets and wealth.

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2 thoughts on “Better Financial Literacy May Help The Racial Wealth Gap”

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