Why Most People Believe Affluence Is Wealth

— -- When you drive through a fancy neighborhood where every home is a mini-mansion with a Mercedes or BMW in the garage, you probably think these people are wealthy.

Some of them are -- but many aren’t, precisely because they spend so much. To me, wealth isn’t the money you earn and spend. It’s the money you keep by not spending it, and then investing it to make it grow.

I see affluence as what you spend, while wealth is what you keep and invest. But in this materialistic culture, that’s not how most people view wealth. Instead, we confuse it with status symbols and high-consumption lifestyle that can be acquired with high incomes.

As a guest lecturer for a college course, I can see how students tend to confuse the outward trappings of wealth – spending – with wealth itself. People with huge houses must be wealthy, they assume. The irony is that, in many cases, the compulsion to consume – to acquire status symbols -- prevents even people with high incomes from acquiring wealth.

Though conspicuous consumption is common elsewhere on the planet, it dominates here in the United States, where the savings rate is relatively low worldwide. Over the past few years, U.S. households, on average, have saved from about 4 to 5 percent of their disposable incomes -- only about one-third or one-half as much as households in some European countries.

The contrast between American spenders and savers is well documented in the 1996 book “The Millionaire Next Door: The Surprising Secrets of America's Wealthy,” by Thomas J. Stanley and William D. Danko. The authors present statistics and scenarios that reveal the contrasting mentalities of typical savers, who acquire wealth, and typical spenders, who don’t.

They explore the reasons why many savers don’t care about status or appearing wealthy, a mentality that enables them to spend less and acquire much more wealth than many spenders. So unbeknownst to you, your next-door neighbor of seemingly modest means might actually be wealthy while the folks with palatial homes may not be.

If you’re truly wealthy, this means you’ve put aside a considerable amount relative to what you earn. People who are truly wealthy are those whose assets can kick in to replace their working income. If they stopped working tomorrow, the income stream from their invested assets would replace what they’re earning now on their jobs or businesses.

If you’re not spending a tremendous amount, it’s easier to achieve a level of wealth in a relative sense, having an asset base that generates income or earnings, replacing what you spend. (This last figure, of course, should be significantly less than your working income.)

You’re wealthy when the combination of your annual dividends and the growth on your investments fully finances your cost of living. People who get to this station in life without inheritance have put aside a considerable amount relative to what they earn. If they stopped working tomorrow, the income stream from their invested assets would replace what they’re earning now from their jobs or businesses. Getting to this point not only requires a good income, but also steadfast discipline to not overspend.