Many people think the way to become rich is to work their way up the management chain or win the lottery. Some go to work and work long hours at jobs they hate, sacrificing family and personal time to get the next promotion. If they are lucky they actually get to produce something useful and permanent somewhere along the way that they can point to as an accomplishment in their elder years, but a lot of time they just produce a lot of entropy and PowerPoint charts. As they advance their pay increases but a lot of their money goes to taxes, buying fancy cars and clothes to look the part of their jobs, and meals out because they are working late.
On the other side are those who don’t try to move up, but also don’t do anything to save and build wealth. They may buy lottery tickets regularly, or simply wait for money to somehow fall into their laps and allow them to pay for their children’s college or their retirement.
While some people do become wealthy using either path, it is about as likely as growing up to become a major league professional baseball player. It does happen, but it probably isn’t going to happen to you.
It is far easier to become wealthy – and thereby become financially independent, which is the real goal – by building pipelines. Pipelines are assets that pay you money without you needing to put in additional work beyond earning the money needed to “build the pipelines”. While you can get water by going to the well and lugging it back by the bucketful, if you use a bit of your energy and resources to build pipelines rather than spending it all as fast as you make it, you will eventually get to the point where you will have income without needing to work for it. That income can be used to build even more pipelines, such that the amount of income grows each year, until eventually you will get more income from your pipelines than you do from your job.
It is actually easier to become wealthy building pipelines than by earning money working. The reason is that as you earn more money at a job, the amount you need to pay in taxes increases. This happens both because the rates go up and because the amount of you expenses that you can deduct declines. Instead of paying 10 or 15 cents taxes on each dollar you make, you might be paying 40 or 50 cents. Indeed with local and state taxes, you might end up paying 60 cents or more in taxes for each dollar you make above $200,000 per year or so.
With investing, if done properly such that most of your income comes from capital gains produced by long-term positions, you can allow your earnings to reinvest and continue to grow without paying taxes until you sell the shares. For example, if you are making $200,000 per year from a stock portfolio but only need to withdraw $20,000 each year for expenses, that other $180,000 can be reinvested to build additional pipelines without paying income taxes as long as you keep the same positions (you don’t sell any shares). When you do sell to enjoy some of the income, you can also pay dramatically less in taxes by selling off a little at a time rather than selling everything at once, since this allows you to keep your income down.
Realize that as an investor you are paying taxes each year, in that any money that the company earns that is not reinvested to grow the company will be subject to corporate taxes which can be as high as 35%. Note that these are paid by the company and the individual investor doesn’t need to worry about them. Still, without having the individual tax burden it is much easier to amass wealth than it would be to work your way up in a company and use a high income to pile up cash. It is even easier to do this than to strike it big in the lottery. You can also build your wealth a lot more quietly so that your distant relatives won’t suddenly come out of the woodwork to share in your prize.
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Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.