Assets vs. Liabilities… Do you really know the difference? One will make you rich, the other will keep you poor.
Understanding exactly what an asset is and what it does for your wealth is the ONLY way you can get rich.
Here’s a test:
Is your house an asset or a liability?
If you answered “asset”, you’re wrong! And, I’m about to explain why…
Table of Contents
What is an asset?
An asset is simply something that pays you to own it.
I’ll repeat because it’s that simple:
An asset is simply something that pays you to own it.
Why do most people get it so wrong?
The simplicity of the concept often brings people to overcomplicate it.
I mean, if it really is so simple, why isn’t everyone rich?
Well, the problem is that most people learn what an asset is from someone trying to sell them something that isn’t an asset.
E.g. The first time you buy a car, chances are the salesperson will convince you that the car is an asset.
Let’s put that to the test:
- Car bought for $40k
- Yearly expenses of $3k
- Sell car for $20k
Does that look like money going INTO your pocket? No. No, it doesn’t.
The mistake is this:
Most people think that an asset is something they own that has value.
Yes, your car has value and will put money into your pocket when you sell it. But, since buying the car you’ll have lost much more money than what you’ll get when you sell it.
Let’s say you bought it for $40k 5 years ago, paid $3k each year to maintain it and have it registered, and just sold it for $20k:
Money Out | Money In | Total |
40,000 + (5 x 3,000) = $55,000 out of pocket | 20,000 - tax = $14,000 into pocket | $14,000 - $55,000 = $41,000 out of pocket |
At the end of the day, if it doesn’t put more money in your pocket than what it takes out, it’s not an asset.
Why is a house not an asset?
95% of the human population believe their house is an asset.
That’s why only 5% of the human population are rich…
Let me first clarify that by house, I mean a place that someone owns (through debt or equity) and in which only they (and their family) live.
Let’s take a look at a house from a financial perspective:
So, if a house is pulling money away from you each year, and paying you nothing in return, does it classify as an asset?
No.
What is a liability?
Now that we know what an asset is, let’s take a look at what a liability may be…
Basically, a liability is something you own that takes money away from you.
Exactly! It’s the opposite of an asset.
Liabilities are things that take money out of your pocket.
Looking at our examples above, we can see that both a car and a house are liabilities. They take money away from us.
Yes, you could sell both of those things and have money given to you in return, but, the cost of owning them clearly outweighs the sale price.
But, what if the house sells for more than what was paid over its lifetime?
Good stuff! That’s a very hard thing to do…
Still not an asset though.
Yes, you could pay $600k for a house with no mortgage, spend $10k per year for 10 years, and then sell it for $750k. Boom, $50k profit!
But, that $700k was wasted on something that wasn’t paying you for 10 years. It could have been invested in an asset paying 10% p.a. like a business, where it could have grown into $1,815,619.72.
I know I’d prefer the $1 mil over $50k.
I hope I’ve made it clear now, that anything that isn’t paying you while you own it is considered a liability, not an asset.
What should I live in then?
(disclaimer: this is not financial advice in ANY WAY)
Now I know owning your home is the Aussie dream, and fair enough, there’s a lot of security that comes with owning your home.
I’m not saying you should never own a house. I’m simply saying if you’re serious about building wealth, a home will just take money out of your pockets, rather than put money into them.
So, what are the other options?
Renting is a great option – rent a home from someone else while you purchase your own properties and rent them out to other people.
Now you’ve got someone paying you rental income every month, and you can use that to pay your own rent so the money you earn from your job can be put into other assets.
How will understanding this make me rich?
Now that you really understand what an asset is and what a liability is, let’s take a look at why and how it’ll make you rich.
Basically, the rich are rich because they spend their lifetime acquiring assets. Remember, that means they spend their money on things that pay them for owning it.
For example, many wealthy people own property that they rent out to others (money coming into their pockets each week), they own shares in a business (money coming into their pockets through dividends), they have savings accounts that compound over time, etc. The fact is, all rich people spend a great majority of their money on things that pay them.
Knowing the difference between an asset and a liability is what sets the rich apart from the poor.
The poor buy liabilities (thinking they’re assets), whereas the rich actually buy assets.
The rich allow their money to grow over time (through compounding), whereas the poor see their income increase and then start to spend more.
Basically, what I’m getting at here is that for you to be rich, you should focus your life on buying many more assets than liabilities!
The Book That Changed My Perspective
The book ‘Rich Dad Poor Dad” by Robert Kiyosaki was my gateway into understanding the true meaning and power of an asset. He does a great job of simplifying financial concepts that the rich understand, so normal people can use them to become wealthy. You can have a read of this amazing book here:
Assets vs. Liabilities. The thing you learn in Business Studies, but from the wrong point of view.
I hope you now fully understand what an asset is and why these are so important in growing your wealth.
For more posts just as helpful as this one, head over to Uncle Nathan’s Money Page.
As always, any questions, comments or concerns, feel free to comment below or shoot us an email and we’ll get back to you as quick as possible.
Enjoy your new wisdom,
Uncle N.
The information on this page is for informational and educational purposes ONLY. It does not take into account your personal financial needs, objectives or situation. For specific financial advice, speak to a registered financial advisor. This is not financial advice in ANY WAY.
This post may contain sponsored links from which I may earn a commission. This is at no extra cost to you (the reader) and will not add to the cost of any item should you wish to purchase through these links. As an Amazon Associate, I earn from qualifying purchases.