What the Rich Know that the Rest Don’t

My Mom loved to watch people. She loved to see how different folks dressed, acted and talked. She often wished to see how the “Other” half lived.

Her background was lower middle class. She and Dad worked hard and moved up the wealth chain, allowing my spouse and I to move up even further. Along the way, I learned some things that are seeming secrets of the wealthy.

Here are several ideas on what I think the rich know that the rest of us don’t.

Long term thinking matters.

Whether it is slowing saving money to invest or gradually growing their business, rich folks know that they are in it for the long haul. Sometimes they are in it for generations. Planning for 100 years of financial prosperity in a family is a major theme in one of my favorite books (Strategy for the Wealthy Family – Seven Principles to Assure Riches to Riches Across Generations).

Rich families understand the power of compounding, the time value of money and the use of leverage to grow their enterprises.

The rest of us are usually just glad to get from paycheck to paycheck each month, with perhaps a bit left over for a splurge or two.

Goals and perseverance are more important than savings.

Although establishing a sound monetary base by saving what you can is important, it can be more important to envision and set specific goals and persevere in moving toward them. If you want something badly enough, you will find a way to try for it. If you don’t have a strong desire, you won’t.

The rest of us may also have goals, but they can be too short sighted (as in a goal to vacation to the beach next year) or not specific enough (as in …someday I want to be rich) or not desired enough so that we don’t persist in looking for and thinking of ways to get there.

Its who you know, not necessarily what you know or can do.

My sister-in-law and her former spouse worked hard to put themselves into a premier area, surrounded by successful neighbors, whom they got to know well. Their boys grew up as equals to privileged classmates who considered it normal to aspire to elite colleges or to have their own business.

Two of four boys have opted to pursue medical degrees and both were able to obtain full ride scholarships at an elite college to do so – in part thanks to the people the family knew. Of course those boys were also educated well and did well in school too. They had both educational and extra curricular excellence going for them.

The rich nourish their relationships as a key part of their financial lives.

The rest of us either don’t develop enough beneficial relationships or don’t utilize them to help each other.

Ways to avoid the tax man.

Wealthy folks seek methods to legally reduce the impact of taxes. They start businesses so they can deduct expenses or hire their sons and daughters (thus giving them income that can be used to fund retirement accounts). They plan how to pass along their wealth to their desired recipients, using tax law to make sure that the recipient gets the most benefit.

The rest of us have no way to avoid the tax bite, as it is deducted before we even see our salary.

You have to take appropriate risks.

Wealthy folks truly know that there is no free lunch. If you want a reward, you have to take a risk to get it. BUT, they also know that there is a time and a place to take those risks. Taking out a huge loan to fund a business idea that hasn’t been evaluated sufficiently is not an appropriate risk to take. Investing every spare dollar in the stock market when you don’t have enough to pay next month’s rent is also not an appropriate risk to take.

Rich people know that they can take more and more risks as their financial foundation becomes more and more secure.

The rest of us get impatient and take risks prematurely. Then when the bad result of the risk is realized, we vow never to risk again.

You can’t depend on a single source of income.

The rich don’t trade time for money and don’t depend on just one source of income. They know that all money is at risk and nothing is certain. That is why they don’t depend on one salary to live. They diversify their income streams. They start businesses. They move assets to other entities to protect them.

The rest of us learned the hard way during the recent great recession that having only one source of income can cause devastation when that income stream dries up.

Stop Thinking. Start Doing.

Although I like to believe I’m the perfect person in every way, I’m not.

I have numerous flaws. I’ve been known to fart in bed (and other locations, come to think of it). I eat and drink too much junk. I’m terrible at catching non-verbal cues, much to the chagrin of my girlfriend, who pretty much exclusively communicates that way. I’m stubborn, and will sulk if I lose an argument.

But those faults pale in comparison to my worst one, and that’s procrastination. My version of procrastination goes like this. When faced with a decision, I’ll spend some time researching it. That time turns into more time, because I seek out more and more information, even though it becomes less and less important. Finally, by the end, I end up going with the first thing I looked at two hours ago.

Take travel, for instance. I’ll spend hours on Expedia, Hotels.com, and Hotwire, ranking the hotels based on location, amenities, and other factors that barely matter, just for a one or two night stay somewhere. I might save $10-$20 per night, but at what cost? Especially since it’s easy to sort those sites by popularity, which is usually a pretty effective way to get a good bang for your buck.

How to combat this

There’s an actual name for this phenomenon, called The Paradox of Choice. Author Barry Schwartz wrote a book about it in 2004.

In the book, Schwartz argues that having more choices actually makes us less likely to make one. We’ll do what I do when choosing hotel rooms, and get caught up in unimportant details that don’t matter. Even if I pick a crummy room, I’ll survive.

To help combat this, Schwartz gives readers a series of things to think about while making a decision.

  • Figure out your goal
  • Evaluate the importance of your goal
  • Array the options
  • Evaluate how each option will get you to your goal
  • Pick the winning option
  • If necessary, modify the goal for next time

These are good tips, but I can’t help but to see the irony in having to go through a six step decision making process in order to simplify things.

Going back to my hotel room example, I’m not sure it’s prudent to go through Schwartz’s whole process to figure out where you’re going to sleep one night. That seems like an awful lot of work for something so trivial.

A simpler solution

Instead of going through Schwartz’s list, allow me to present a much simpler solution.

Schwartz wants you to focus on the goal. But the goal is often complex, with more than one stated benefit.

Let’s use a money related example. Say you had $100,000 put aside to buy a house in the next year. You want to earn a little bit of cash on that money while waiting, but you also want to take no risks with the principal.

There are several different ways you could accomplish this. You could stick the money in a completely liquid high-interest savings account, like offered by Tangerine or PC Financial. You could stick it in a one-year GIC offered by a bank or credit union. You could stick the money in short-term government bonds which mature in approximately a year. Or you could plunk it in a bond ETF, knowing you’ll get a little more interest in exchange for a little more risk.

Each of those options is likely to accomplish the same goal. Just like every single hotel out there will help me accomplish the goal of giving me a place to sleep. Suddenly we’re back at the original problem.

According to Schwartz, we now have five more steps until we reach a decision. Forget about that. By focusing on one secondary goal, we can speed up the process.

Say we determine liquidity is the secondary goal for the house saver. They want access to the money quickly, just in case a smoking deal shows up.

This makes our decision much easier. The high-interest savings account probably won’t offer as much as a one-year GIC or bonds, but it’s a five minute process to get your cash, and there won’t be a nickel in penalties. It’s clearly the best option.

Just do it

The other thing we need to realize is most of our decisions aren’t very important.

Choosing what type of salad dressing doesn’t matter in the scheme of things. Neither does choosing the wrong color of t-shirt or deciding what movie to cue up on the Netflix machine.

What I do when faced with a decision is ask myself one simple question. “Will this matter five years from now?” The answer is almost always no.

That makes the decision much easier. It also allows me to give my head a shake and realize that I’m wasting time on something that isn’t very important. I’m free to make my decision and move onto more interesting or lucrative endeavors.

Making decisions can be hard. If you make the process easier, you’ll free up all sorts of time that can be put to better use. That’s why mastering the decision making process is just as important as other parts of your finances.