Wealth depends on how much you save

Big earners need to focus on building wealth just as much as lower-income earners. 

If you earn, say, R80000 to R100000 or even more per month you may think that you’ve made it. But getting out of the “hunting state” and losing the killer instinct too soon could see you moving right back to the bottom of the food chain.

True financial independence means saving up enough money to live off the income for life. How much do you need?

As a general rule, for every R1000 of monthly income that you want, you need about R240000 in capital.

People who earn large incomes for certain periods should ideally take advantage of that higher income to feather their nest and fast-track their progress towards financial independence. This strategy will ensure that they can maintain an above-average standard of living for life.

If you aren’t saving, you can enjoy a really comfortable standard of living while the income is flowing, but then drop back into the sad pool of South Africans who have underfunded retirements once it stops.

Some people think that as soon as they earn a big income they no longer need to use a personal budget. But this is a completely erroneous deduction that turns many top income earners into hard-up pensioners with underfunded retirements, forcing them to find a job to supplement their income in their 70s.

Many big earners are unaware that they need to be working toward financial independence.

A medical doctor once told us that he always thought that if he just put his head down and went for it everything would work out in the end. But after doing a thorough financial plan he realised that his income had given him a false sense of security.

Big earners are less likely to control the outflow of money in their month-to-month private spending.

If they see it and they want it, they buy it – without paying attention to mundane concepts such as actually budgeting for it, which is for “lesser mortals with smaller incomes”.

In fact, when it comes to financial faux pas, people with bigger incomes generally make the most expensive mistakes.

Big earners tend to have a sense of financial invincibility. They are not too concerned with going into overdraft because they know that they have the ability to wipe it out in a month or two, if they really had to.

But the truth is that higher earners cannot be totally relaxed until they have built up an investment portfolio big enough to support them for life: this is financial independence.

Until then, they should be in a kind of hunter state, working toward the prize of true financial independence.

I’d like to share two examples with you. Steve had a cash business with a huge turnover but a very thin profit margin. Because large volumes of cash moved through the business he made a considerable amount of money, even though the margins were wafer thin.

He sold the business and bought another one with a lower turnover but larger profit margins with the idea that he could spend less time working and have a better quality of life. However, a few of the old habits that he had developed during his big turnover days almost sank his financial ship.

While going through a financial planning exercise, Steve was asked to make a list of his debt. After adding up the numbers he felt ill.

He always knew that he had many accounts but he had no idea that cumulatively he was over R2m in debt.

He realised that by becoming accustomed to dealing with enormous amounts of money on a daily basis, he began to disregard small amounts of R100, R500 or even one or two thousand.

Do that for long enough and the small amounts become big amounts.

By contrast another self-made millionaire asked for help in reshuffling his personal financial portfolio.

Interestingly, this man, who is in the top 5% of income earners, would query a R300 discrepancy on his bank statement. Although this was a small amount relative to his wealth, he didn’t ignore it – he watched all his outflows carefully.

Income is not wealth. If you earn R1m and you spend R1m you are not getting wealthy, you are just living high. Wealth is not what you earn, it’s what you accumulate. 

*Paul Leonard is Citadel’s regional head: Eastern Cape

This article originally appeared in the 2 June 2016 edition of finweek. Buy and download the magazine here.