Minimizing the purchase of things that depreciate in value will significantly improve your family’s ability to build wealth.
As I’ve mentioned in previous articles, the biggest reason why rich people get richer is that they buy a higher percentage of things that go up in value compared to their income.
Sure, rich people buy consumable things like clothes, cars and food, but they acquire a lot more assets that appreciate in value like stocks, real estate and collectible items (as a percentage of their income) than their less well-off neighbors.
This is why many people are opposed to a national sales tax and state vehicle excise taxes. They considered these taxes “regressive” and unfairly targeting lower income earners.
How Depreciation Affects Your Personal Finances:
When looking at financial purchases, it’s important to consider depreciation and how it works. If you could buy a $30,000 vehicle and sell it 4 years from now for $33,000, it would probably make sense to buy it, right? You’re basically being paid to drive a nice vehicle for 4 years.
Unfortunately, reality doesn’t work that way. Families who purchase a $30,000 vehicle see the value of that vehicle drop $3,000 to $4,000 thousand dollars per year. After 4 years, that $30,000 purchase is only worth around $16,000.
These families are paying over $300 per month in depreciation with nothing to show for it other than being able to drive a shiny new vehicle. That’s $300 that could be saved for retirement or towards a down payment on your first home.
For a family a family with a combined household income of $70,000 per year, the family in our example is paying almost 6% of their income annually in depreciation on just one of their cars.
Contrast this with a family with a combined income over $400,000 who purchased a $50,000 car. That $50,000 car will be worth around $28,000 at the end of 4 years resulting in a yearly depreciation of $5,500 per year.
Even though the wealthier family bought a more expensive car, the depreciation “tax” they pay is only about 1.4% of their income. In this example, the wealthy family pays 4.5% less in depreciation each year than the family with a significantly lower income.
It’s not just vehicles that are holding working and middle class families back. Wealthy families pay significantly less (as a percentage of their income) on other consumable purchases like food, clothes, medical bills, utility bills, vacations, recreational activities and electronics. Not only are they able to save and invest more because they have a higher income, they’re able to save and invest more because (as a percentage of their income) because they pay less depreciation “tax”.
How to Minimize the Deprecation of Your Assets:
There are many things you can do to protect yourself from the ills of rapid depreciation of the things you buy.
Vehicles: I hate to keep harping on vehicles, but they truly are the shackles around working and middle class families holding them back from financial independence. Unless you have a significant net worth, it’s hard to make a reasonable case that supports buying a brand new car. Buy used or certified pre-owned. Save the difference in your emergency fund and pay cash for your next car. Keep your cars well maintained and make sure you get the best price when you are ready to sell your car.
Clothes: Make sure you have a realistic budget when it comes to buying clothes are other consumable items. Many of the same clothes you’d pay retail for can be purchased for less expensively in consignment shop.
Utility Bills: As I mention in the 21 Day Personal Finance Challenge, there are many things you can do to reduce your monthly utility bills.
At the end of the day, the less money you spend on consumable items that either depreciate in value (vehicles) or have no value at all once consumed (utility bills, food, etc.) the more money you’ll have left over the save, invest and purchase assets that go up in value.