- Wealth does not equal income, but people often mistakenly think they’re the same thing.
- Wealth is the net worth of a household, whereas income is what’s reported on an income tax return.
- Being rich isn’t about how much money you make or spend – it’s about how much money you keep.
There are a lot of myths about wealth, but one seems to strongly persist: The idea that income equals wealth.
“It continues to be the assumption of those who increase consumption as their income increases that they are the same,” wrote Sarah Stanley Fallaw, director of research for the Affluent Market Institute, in her book, “The Next Millionaire Next Door: Enduring Strategies for Building Wealth, in which she surveyed more than 600 millionaires in America.
She added: “And believing this myth gives the false perception that those who appear to be rich (neighbours driving luxury cars or friends in $US200-plus jeans) are wealthy when in fact it only means they spent more than real millionaires on these purchases.”
Point blank, income and wealth are not the same thing.
Wealth refers to the net worth of a household, i.e. all of its assets minus of all its liabilities, Stanley Fallaw explained. Household income is merely realised income to be reported on one’s personal income tax return.
Even the Tax Foundation gets it wrong, referring to “millionaires” in terms of their income tax returns versus their net worth, Stanley Fallaw said. In reality, a millionaire’s income is only 8.2% of their wealth, she found through her research.
This myth is problematic, Stanley Fallaw added, because it “distorts” the numbers people focus on when trying to achieve financial independence.
Wealth isn’t about how much money you make or spend – it’s about how much money you keep
“When people say they want to be rich, what they’re saying is they want to spend like a rich person. They’re focusing on earning a big paycheck,” Chris Reining, a self-made millionaire who retired early at age 37, previously told Business Insider.
“But that’s not the definition of being rich,” Reining said. “The definition of being rich is having assets generating income that exceed your standard of living.”
He continued: “Someone earning $US50,000 a year while they sleep from dividends and investment gains and spending $US40,000 a year – they’re rich. I have friends earning half a million, and with private schools, second homes, and expensive lifestyles, they have nothing in their bank account – they’re poor. That’s why ‘rich’ has little to do with how big the paycheck is.”
Business Insider’s Lauren Lyons Cole, a certified financial planner (CFP), also found that most people inaccurately define wealth by how much people spend, not how much money they have in the bank account.
“Stuff doesn’t equal wealth. Money does. And it’s not the same thing,” she wrote. “I’ve worked with teachers who have bigger savings accounts than doctors who earn five times as much per year. High salaries can lead to wealth, but not if you burn through every last penny buying luxury cars or filling the closet with designer clothes.”
Many millionaires do earn higher-than-average incomes, according to several studies, thanks in large part to their goal-oriented mindset and hard work, which can forge a strong career path. But even high earners can live paycheck-to-paycheck.
It’s what they do with their income to build wealth that makes them rich; they have enough perseverance to avoid “lifestyle creep,” the tendency to spend more whenever one earns more, and therefore spend below their means. This leaves enough money left over to commit to saving, ultimately increasing net worth.
As Stanley Fallaw says, while income and net worth are related factors, “each should be used in different ways to assess overall financial health and progress.”