During business and economic discussions, it seems that distinctions are rarely made between income and wealth. Income represents the resources that are accumulated annually. Wealth represents the total amount of resources that have been accumulated throughout the tenure of your life. Income must be earned by you year after year. Wealth can be used to generate income year after year, without any direct input from you. (Now we’re talking …)
How to Accumulate Wealth
The key question that most people ask at this point is how to accumulate wealth. At a basic level, wealth comes from one of two sources. The first source is spending less than you earn . . . aka savings. The second method for accumulating wealth is by having investments that increase in value. These two concepts are linked because savings can be invested into assets that increase over value. Over time, the appreciation will compound upon itself and build wealth.
Retirement Income Arithmetic
Many people regularly use the term “financial independence” to describe a state where the amount of wealth that you have accumulated is sufficiently large to generate income that will support your lifestyle throughout retirement. It is important to note that “retirement” is not a matter of time, but a matter of wealth. It is also important to note that the amount of wealth you must accumulate to reach financial independence will vary; based on how expensive it is to support your lifestyle. If your lifestyle is modest, the amount of wealth you need to reach financial independence will be relatively low. In order to support a more affluent lifestyle in retirement, it will require the accumulation of a significantly larger amount of wealth.
Each person must make their own assessment of the lifestyle that they consider acceptable, and the value of working longer to accumulate enough wealth for retirement vs. retiring early with a more modest lifestyle. There is no right answer to this question and no wrong answer . . . but it is a question that needs to be answered.