Recently, Dave Ramsey magnanimously invited me to be a guest on his show. During the interview, Dave asked me about the changes I had noticed among Americans since the recent economic meltdown. One of the changes I mentioned was the precipitous decline in the number of people who advised me that “$1 million (in net worth) – that’s nothing anymore.”
Apparently, in this current economy $1 million is a lot more than nothing!
But, this issue is more complex than merely having or not having $1 million or more accumulated. It’s not really “a big deal” (or nothing anymore) if you became rich via a very high income, say $300,000 or more. What is a big deal is if you are clever enough to become a millionaire without even having a household income in excess of $100,000.
In Stop Acting Rich, I profile two distinct ways in which people become rich. The balance sheet affluent (BA) are very productive in converting income into wealth. In sharp contrast, the income statement affluent (IA) are much less productive. They earn big and spend big. Their high level of compensation is the true force behind them becoming millionaires.
In order to illustrate my point, I computed a wealth index (WX) for each of the 944 millionaires profiled in Stop Acting Rich. Your household ‘s WX is the ratio of its actual net worth over its expected or predicted level (expected net worth was computed via the wealth equation: your household’s net worth should equal 10% of your age times your annual realized household income, 0.10 X age X income).
I was particularly interested in determining at what age and at what corresponding level of annual realized income these respondents first crossed the millionaire threshold. Given this information, I divided the 944 into 3 groups. The BA group contained those who ranked in the top 25 percent in terms of their WX. The threshold WX for those included in the BA group was 1.84. The median WX for those in this category was 2.49. In other words, the “typical” member of the BA group had an actual net worth that was 2.49 times the expected figure, given his age and income at the time he first reached the seven-figure wealth threshold. The IA millionaires ranked in the bottom quartile along the WX continuum. The highest WX within this group was 0.880; the median WX was only 0.665. This means that the typical IA had an actual net worth that was only 66.5 percent of what was expected. When he first became a million 11 years prior, the typical BA respondent was 45 years of age and had an annual realized household income of $89,167. Given this age and income, his expected net worth was only $401,252. But it was actually 2.49 times greater than the expected amount. At the time he first reached the million-dollar plateau, the typical BA generated the equivalent of $11.20 of net worth for every $1.00 of his annual realized household income. The median age of an IA member when he first reached the affluent threshold was 45 years 5 months while his median annual realized household income was $331,250. Thus the typical IA member needed $1.00 of income to generate the equivalent of $3.02 of net worth. Contrast this figure with the $11.20 of net worth accumulated for every $1.00 of income generated by the typical member of the BA club. It becomes clear that the BAs, those who played great defense, were much more efficient than the offense-minded IAs by a ratio of 3.7 to 1 ($11.20 versus $3.02).
So, now let me return to the key question once again. Is it true that having a net worth of $1 million or a bit more today is “nothing anymore”? If it requires the equivalent annual income of $331,250 (top 1%) for one to reach millionaire status, then maybe the answer is “yes.” But, what if you are smart enough, disciplined enough to do it with an annual realized income of, say, about $89,167 or even up to, say, $120,000? Then you deserve to receive a recognition trophy from the league of the millionaires next door!