How To Build Generational Wealth

When you envision generational wealth, do you see images of private jets, lavish parties, extra chilled martinis, and designer clothes for toddlers come into view? That may be, but this post is not about those already wealthy. It’s about people striving to build wealth and pass it to the next generation.

What Is Our Duty to Our Children?

Having and raising kids is the most challenging job in the world. As parents, you are responsible for their wellbeing, keeping them safe, healthy, supporting them in any way possible no matter how sassy and disrespectful they become as they enter their teens. Parents often have to be “perfect” in their children’s eyes and even know some magic tricks.

You want them to be happy people, respectful to others, good members of society, and financially secure.

Defining Generational Wealth

Generational wealth refers to our ability to pass our assets to our children and grandchildren as part of our family legacy. The current generation wants to leave behind family wealth as a legacy for our children, the next generation, so they have financial advantages to better themselves.

How Much Money Do You Need To Count As Wealth Generation?

If you are looking for a specific number like $5 million or $10 million, I am sorry to disappoint you. There is no magic amount. Wealth generation varies by person or family, and what counts as a sizable inheritance for one person may be a pittance for another. and their attitude towards money.

You want to achieve generational wealth by having enough accumulative wealth to pass down to your children so that they can pay all or a part of their living expenses without tapping your financial resources during your lifetime. It is essential you have a financial plan, laying out your current and long-term financial goals, and work towards accomplishing them.   

Will the assets you are leaving behind last a long time? It depends. If someone inherits $5 million but can happily live off $50,000 and continues to work at the job they love, that money left to them will last a long time. On the other hand, if that person has a luxury shopping list and intends to spend most of their inheritance and blow through the money, that inheritance will go pretty quickly.

It is relatively easy to build generational wealth compared to maintaining it in future generations. You have a role to play in your children’s attitude towards money and providing them with a financial education starting when they are young.

Why Is Generational Wealth Important?

I know that my parents, significantly my mom, believed in the importance of leaving money to my brother and me when she passed away. Mom was frugal so that she could provide financial advantages to us that she could not have in her youth when she suffered the loss of her family and their wealth. Mom taught me many valuable money lessons.

As parents, we want to ease our children’s financial pressures, so they don’t have to take on burdensome debt unnecessarily, which can help them find success and happiness while further growing their wealth.

There is no guarantee that money is important to them today as teens. However, Craig and I know our kids will be entering a competitive world that will challenge them. Why not help as best we can?

Growing up in a modest home in the Bronx raised by two immigrant parents, money was very tight. We drove an old car that had difficulty starting, simple clothes, but we had a refrigerator filled with food and a roof over our heads. Friends in our neighborhood were no better, and none of us complained because we didn’t know better until much later when we worked in our respective jobs.

Being from a poor area spurred many of us to become professionals and find success. We want the same or more for our children by generating wealth through our jobs, spending within our means to pay our bills, and avoiding debt. Making our savings work for us, we invest our money in stocks, bonds, real estate, and other assets, earning income from investments and other income streams.

How To Build Wealth

 

Manage Your Finances Well

To build wealth, you need to start by taking care of your basic financial needs. That means:

 Establishing An Emergency Fund

Setting aside money when unexpected emergencies happen is essential so you can pay your monthly bills on time. You can’t predict when your boiler breaks, the car needs fixing, or your pet requires surgery. Rather than relying on borrowing or putting these expenses on your credit card, tapping your readily accessible emergency fund is more cost-efficient. In the meantime, you can invest this money in liquid assets.

Spending Less, Saving More

Spending less than you earn so you can invest the rest is the mantra for successfully growing your wealth. The tripwire for many is not being able to resist overspending and having high debt levels. It means making trade-offs that align with your financial goals.

Make your savings work for you, so you contribute to the maximum allowed to your retirement accounts, earning your employer’s match as virtually “found” money.

Homeownership or Rent My Home

Owning your home is still a significant part of the American Dream. According to the 2019 Survey of Consumer Finances (SCF), the US homeownership rate remains high at 64.9% in 2019, though below the 2004 peak of  69.4%. Housing wealth is the most significant contributor to the net worth of Americans, accounting for over 32% of the increase across all income levels.

The household wealth of a homeowner at $255,000 is 40 times greater than the wealth of the renter at $6,300. Your home keeps pace with inflation and comes with tax benefits.

However, not owning your home doesn’t mean you can’t generate wealth. The renter can invest the money they aren’t using for a down payment for a home and monthly mortgage payment into financial assets, particularly stocks or in real estate, to build wealth. 

Investing

Owning stocks has long been the best path to building wealth. About 53% of all families owned corporate stock in 2019, 31% of families in the lower half of income held stocks compared to 70% of the middle-income bracket and more than 90% in the top decile of income.

Stocks have a better risk-return profile than many assets and keep better pace with inflation. Investors can buy low-cost index mutual funds or  ETF’s with instant diversification in a long-term perspective. In recent years, it has become more accessible for beginner investors to buy stocks with zero commissions, fractional shares, and the elimination or reduction of minimal investments.

Besides purchasing stocks, an investor should build a diversified portfolio with assets including bonds, real estate, and commodities like precious metals. If you are looking to build wealth, we don’t encourage investors to become short-term traders to chase meme stocks, use short-selling or margin calls which can depress your returns with borrowing costs. 

Building Your Own Business

Having your own business takes hard work but can make quite a legacy for your family. According to the US Census Bureau, about 90% of American companies are owned or controlled by families. More than  30% of family businesses make it into the second generation. Business-owning families tend to be wealthier and have higher incomes. That’s the good news, but the bad news is that 70% of families sell their businesses before the second generation takes over.

More often, the next generation doesn’t want any part of the business, and there is never a guarantee that you will have a younger member of the family that wants to take over the firm. In the US, a familiar aphorism, “shirtsleeves to shirtsleeves in three generations,” signifies the failure of businesses by the time the founder’s grandchildren take charge.

The best chance you have of passing on your business to the next generation is indoctrinating them to various parts of the business at a young age to whet their appetite, not obligate them to serve the company. Give them a tiny stake in the firm and train them properly.

If you can’t pass ownership of the business to the next generation, you can structure the business for an eventual sale with a team of advisors who can take the emotion out of the valuation. That value contributes to your wealth.

Build Multiple Income Streams

Rather than work in the family business, many people develop multiple streams of income besides their wages. There are many reasons to forge various income streams: job insecurity, irregular income, or expanding your income potential.

Did you know that millionaires have seven income streams on average? Besides earned income from your job, you can generate rental income, interest, or dividend income from your investments, capital gains, or passive businesses where you sell things online, or royalty income from your intellectual property.

Buy Insurance For Asset Protection

You can plan to build generational wealth, but you need to incorporate insurance to protect your assets from loss of income, injuries, significant disasters,  lawsuits, creditors, or other claims. Without proper insurance planning, you may be exposing your assets to loss in value.

Top on the list for families is life insurance in the event of an untimely death. We recommend getting eight essential types of insurance, including auto, homeowners, renters, life, disability, long-term care, health, and an umbrella insurance policy.

Invest In Your Children’s Education

A college education remains an essential component of your child’s financial success. Student loan debt reached a new record high at $1.57 trillion in 2020.

You can send your children to college with less or no debt by regularly contributing to tax-advantaged 529 college savings funds as early as possible. The time to think about how to pay for college is not when they get into the college of their choice, but much earlier. 

Usually, that means that after they are born and named, you can get a social security number for your child and open an account for them. Over the next 18 or more years, invest this money in a choice of mutual funds or ETFs.

Separately you can open custodial accounts, which are financial gifts established under the Uniform Gifts To Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA). As a custodian, you manage and invest the assets in the account which become your child’s, typically at age 18 or 21 when they become an adult, depending on the state. Having this kind of account is an excellent opportunity to teach your children about saving and investing.

Teach Your Children About Being Fiscally Responsible

We are our children’s role models. When they are at an early age, we have their devoted attention, and they are curious. Parents can be most influential in guiding them in handling money by showing how we save and spend money, using props like pennies or their toys. Make special trips with them to the grocery store, gas station, or the bank. Let them see you pay bills that you owe to other people. Share your values with them and any of your mistakes that can be an excellent lesson for them.

As they become teenagers, they will want a bank account, use our credit cards, and ultimately their access to credit. Teach about how your money can grow by compounding interest on interest, building your money. Then show them how your credit card balances that you owe can also build up, compounding your costs. They will make mistakes but help them correct them. POST fiscally responsible

We want them to be fiscally responsible with money. Teens don’t understand how expensive things can be when they are order food from DoorDash, and there are fees for the convenience. 

You want them to build strong habits so that they can be financially independent people. Financial literacy is a great skill to have.

How To Pass Your Wealth Down To The Next Generation

 

Create An Estate Plan

You should create an estate plan so that you have control over your asset distribution to your loved ones during your lifetime. Aim for your plan to be as litigation-free as possible.

Having an estate plan carefully done with a seasoned attorney may avoid the potentially lengthy and costly probate process that delays the transfer of assets to beneficiaries and preserves privacy. 

The estates of well-done entertainers like Aretha Franklin, Jim Morrison, Robin Williams, Prince, and Nina Simon have been tied up in courts for years either because they had defective estate documents or no wills at all.

Beneficiary Designations

Beneficiary designations are an essential way to distribute most of your assets quickly and effectively. You have probably already filled out forms at work or at a bank to designate beneficiaries without thinking much about it.

We can distribute our non-probate assets this way. Examples of non-probate assets include bank and brokerage accounts, retirement accounts, life insurance, and real property. 

You will avoid the often painful and lengthy probate court procedures. Your will doesn’t control who inherits all of your assets. In reality, the average person may transfer the majority of their assets by contract by designating beneficiaries.

Wills and Trusts

According to a 2021 Gallup Poll, less than half (46%) of US adults have a will.

As you accumulate more assets and build your wealth, you should consult an attorney for your estate plan to make wills and related documents to distribute probate assets and explore tax optimization strategies. Make sure to account for digital assets in your estate plan as they may be of significant value in the future. 

Generational wealth can pass to your beneficiaries in two ways:

  • Inheritance after you have passed away.
  • Gifts during your lifetime.

Inheritance

The bulk of your wealth will pass on to your loved ones and other beneficiaries through inheritance after you pass away. The legacy will be relatively modest in value for most of us and will transfer to your designated beneficiaries.

The typical value of all inheritances received by families with one parent having a college degree is $92,700 versus $76,200 for families without a college degree. Expected (rather than already received)  inheritances by families with a college degree are $200,000 compared to $100,000 for families without a college degree.

Most inheritances in the US will not incur taxes as a transfer if the amount stays below $11.7 million, the federal tax exemption in 2021. Federal and some states may apply taxes above this level. Depending on the assets you inherit, you may eventually pay income taxes on their sale, depending on the asset type. You should consult with a tax professional in this area.

Inter Vivos Gifts During Your Lifetime

Typically, you think of your wealth passing to your family after you have passed away. However, parents may want to help their kids with money for a down payment for their first house or a car if they have the resources. When you are receiving these amounts from your parents and not paying them back as a loan, this money is a gift, legally.

Families can pass a significant portion in the form of intervivos (Latin for “while alive”) gifts during their lifetime, which can provide you with tax benefits. In 2021, families can pass along up to $15,000 per person or $30,000 per couple without incurring federal gift taxes.

A Comment On The Wealth Gap

This comparison only reflects the legacy differential based on a college education. However, it hides the significant gap between the top 1% of wealthy families, compared to the next 49% of families and the bottom 50%.

Besides disparities caused by education and race, the wealthy distribute higher home values, investments, provide gifts, and fund their children’s education, down payment for homes as transfers during their lifetime.

I do not want to make light of this serious gap. Between 1995 to 2016, more than 55% of inheritance were under $50,000 while only 2% exceeded $1 million.  But the smaller inheritance count of 2%  was more than 40% of all the money passed down.

In terms of wealth (or net worth), the Federal Reserve found 1% is the amount of the wealth of the bottom 50% of Americans in a wealth inequality study. The disparity comes from the transfer of wealth from generation to generation as “the bulk of intergenerational transfers are flowing to families that already have substantial resources.”

It is easier for the wealthy to get wealthier than to gain a foothold on the path to wealth. Yet, it is highly possible to build wealth by spending less, saving more so you can invest in faster-growing assets, and protecting your assets.

Maintaining The Wealth In Next Generations

Now comes the hard part. Maintaining generational wealth can be challenging for various reasons.

Future generations may have different attitudes towards money, risk, focus, and societal changes that revamp the tax structure. The wealthiest in our society–Warren Buffett, Robert Morehouse, Bill Gates– systematically distributing their money to needed social causes away from family.

Are your efforts to build wealth for your kids and beyond a “field of dreams”? Will they want to live as you hope they will, or will they overspend their inheritance quickly?

Research points out that 70% of families lose their wealth in the second generation, while a stunning 90% lose all of it in the third generation. This pessimistic scenario may occur because:

  • Many families are taught not to discuss money.
  • The first family may not have guided how to manage money.
  • The next generation’s advantages may override ambitions and feel a bit entitled.

Some ways the “giver” of wealth  can do for the future “recipients” of the estate are:

  • Communicate to your young children about your values and managing of money at an early age.
  • Teach them actively about how you grew assets and the challenges you faced, including mistakes.
  • Consider putting a mandatory distribution in your will that limits your children’s access to their inheritance at a specified age of 25 or 35. Alternatively, you can stagger the amounts so they receive partial distributions every few years.

There is no guarantee that your children will have your values, but you can influence them in their younger years. You want them to be happy and responsible people.

Final Thoughts 

 Creating generational wealth so that you have the ability to pass your assets to your children and grandchildren is a valuable plan to accomplish. You have to build your wealth before you can leave a legacy behind. Having that mindset helps to manage your finances well so you can enjoy your life and provide advantages to your children.

Thank you for reading! Please visit The Cents of Money for other articles of interest!

 

 

 

 

 

 

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