Am I Wealthy?

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Question:  I work hard, have paid off my mortgage, and have been saving for retirement.  My goal is to become wealthy enough to retire and enjoy my family and the world.  How will I know if and when I am wealthy? How do people measure wealth?

Answer:    “Wealth” means different things to different people.  There is no benchmarked  amount of money, assets, or income above which you are suddenly wealthy.  Wealth can be a state of mind and relative to whatever standard you care to measure it by.  Some rich folks with lots of money never have enough and want more. Others, who are not so well off, might feel wealthy if they have good health, positive relationships, a rewarding job, and enough income to meet their standard of living.  One thing is for sure.  Wealth does not guarantee happiness.  There are plenty of wealthy but unhappy people.  “Can Money Buy Happiness,” an article in The Wall Street Journal last week, summarized recent research that shows that “wealth alone doesn’t guarantee a good life.”  

For your purposes, and for the purposes of retirees and people planning on retiring someday (who isn’t, right?), the most useful “financial planning” definition of wealth that I have found was described by Rob Arnott, a Certified Financial Analyst and Chairman and CEO of Research Affiliates. He prefers to measure wealth by your capacity for “sustainable spending” – the inflation-indexed real income that your assets could sustain over time. 

By following this measure, you can consider yourself financially wealthy if your assets will permit you to sustain your chosen life-style for the rest of your life.  Here are two examples:

Scenario #1.  You retire with a $5 million dollar home. You have $1 million in your retirement account to provide retirement income and you have a monthly expense budget of $8,000.00.  In a financial planning sense, you are not wealthy.  Your net worth of $6 million may make you feel wealthy, but you won’t be able to sustain your lifestyle and keep up with inflation (without selling your home).

Scenario #2.  You retire with a $3.5 million dollar home. You have $2.5 million in your retirement account to provide retirement income and you have a monthly expense budget of $8,000.00.  In this scenario, you are financially wealthy.  Your net worth is the same as above, but this time you have enough income-producing assets to sustain your lifestyle and keep up with inflation.

Here is a quick and dirty method you can use to determine the dollar value (your “number”) that your retirement portfolio or other future income sources must reach before you can consider yourself wealthy.

1.  Carefully calculate the projected total amount of your annual expenses. Include everything – taxes, gifts, utilities, trips, repairs, mortgage payments, food and clothing, etc.

2.  Divide your projected annual expenses by 0.04 (4%).  The result is your “number.”  For example, if your projected annual expenses equal $96,000 then your level of income producing assets must equal or exceed $2.4 million before you can consider yourself financially wealthy.

This method is a crude, conservative, rule of thumb you can use to get you in the ballpark.  Once there, you will need to make sure that your income-producing assets are invested wisely. 

Kenneth B. Petersen CFP®, EA, MBA, AIFA® is an investment manager and Principal of Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey.   He welcomes questions that you may have concerning investing, taxes, retirement, or estate planning.  Send your questions to: Ken Petersen, 2340 Garden Road Suite 202, Monterey, CA  93940 or email them to ken@montereypw.com.