What is one of your core reasons for wanting to improve your finances? Many people want to become financially stable, so they can thrive instead of simply surviving.
That being said, you’re probably interested in building wealth as well which is just one of the many benefits of improving your financial habits and situation.
Whether you want to retire early, send your kids to college, or become financially independent, you'll need to implement some wealth-building strategies that involve managing your money better, earning more, and investing wisely.
Building wealth is not just all about becoming rich and earning a lot more money. It’s also about your net worth and how much money you’re able to maintain so it can start to work for you.
It's also important not to be afraid of or intimidated by investing, which is one of the fundamental ways to build wealth over time. The fact that more U.S. families own cats than stocks implies that many people don’t know how to build wealth via investing which is a major problem since the best time to start building your nest egg is during your 20s and 30s.
And still, building wealth may come with some risks that can be easily managed and possibly even avoided if you develop a specific plan based on proven studies and data. Here are nine scientifically proven ways to build wealth.
1. Set a Specific and Realistic Goal
Building wealth means something slightly different to everyone. Before you get started, it’s important to lay a solid foundation by making your broad goal more specific and realistic.
How wealthy do you want to become? For the sake of this article, let’s say you’re looking to build enough wealth to retire. In that case, you’ll need to determine when you’d like to retire and what you’d expect your annual income to be during retirement.
This will help you determine how much money you actually need to obtain the amount of wealth you desire. Investing can help you build wealth over time which is why it’s best to start as early as possible.
For example, if you want to set an aggressive goal of having enough wealth to retire by the age of 45, you can use the common 4% rule which represents the maximum amount you can withdraw from your portfolio each year in order to pay for your living expenses when retired.
If you wish to live off $40,000 per year, your formula may look something like this:
$40,000 / 4% = $1,000,000
Then, you’ll know exactly how much money you need to have and can develop a realistic plan to meet that goal.
Setting specific and realistic goals is one of the best ways to ensure you’re successful in reaching them. A 30-year research project on goal setting and conscious performance conducted by Edwin A. Locke indicates that specific and realistic goal setting can help improve your motivation and ability to stay on task, so you achieve the results you desire.
2. Reduce Your Expenses
Finance experts tend to have a simple formula for building wealth, and it starts with reducing your expenses and living well on less. If you're giving in to lifestyle inflation and spending all the money you have, there won't be much left to save and invest.
According to Pew Research, the average household has a higher expense to income ratio than it did 19 years ago which means people are spending much more relative to what they’re earning.
Reducing your expenses is the first action to take, but you must commit to living on less long-term and adopting a frugal lifestyle.
Make sure your housing costs are affordable and don’t exceed 30% of your income. Cut monthly subscriptions you no longer use, lower your cell phone bill, consider buying used clothes and household items from time to time, and shop around for better insurance rates.
Stick to a monthly food budget and shop for seasonal items and bring a list to stay on track.
Reducing your expenses doesn’t mean you have to sacrifice fun either. You can search for free and affordable entertainment in your area and utilize coupons and discounts from sites like Groupon to save money.
Sticking to a budget can help you keep your expenses low. Use a spreadsheet and enter in all your sources of income for the month in one column. Then, enter all your expenses. Then, go line by line and see which expenses you can cut out or reduce.
3. Pay Down Your Debt
While you’re reducing your expenses, it’s also important to focus on paying down your debt. It’s hard to build wealth when you have debt because you can spend a significant amount of your money paying back lenders and paying interest.
According to NerdWallet, the average household has $137,063 in debt, and for households that have credit card debt, interest costs them around $1,300/yr. Imagine if you were able to invest that money instead.
Given the fact that over 73% of Americans die in debt, it’s no wonder why most people are unable to build wealth within their lifetime.
To pay off your debt, you need to put a plan in place. Get honest with yourself and figure out how much you owe, who you owe, and what your interest rate(s) are.
Then, develop a strategy for paying off your debt. Stop using credit cards and determine which debts you’ll focus on paying down first.
For example, if you have high-interest credit card debt or a car loan, you may want to pay that down before low-interest federal student loans. Use extra money from raises, bonuses, your tax refund, and side hustles to accelerate your progress.
4. Control Your Spending Habits and Start Saving
Once you pay down debt, there is always the risk of getting back into debt after mismanaging your finances. That’s why it’s best to gain control over your spending habits which will also help you use your money as a tool to build wealth by saving more of it.
While the Organization for Cooperation and Development found that Americans saved an average of 4.5% of their income due to a lack of control over their spending, a Stanford Graduate School study suggests that people can increase their savings by controlling their spending habits which leads them to feel like they have more power over their situation.
Five experiments were conducted for this study, and it was found that feeling powerful – defined as having control over valuable resources – is a pleasant state that individuals are motivated to maintain.
The researchers also argued that since money is one of our most favored and necessary resources, individuals who feel powerful save money to secure their feelings of power.
To regain control over your spending habits, get clear on your values and the initial goals you set. Find out what's important to you, so you stop spending mindlessly and regretting the money you waste on impulse buys.
5. Focus on Earning More Money
Earning more money can be a direct link to obtaining wealth which we’ll explain below. In a way, it’s also common sense because the more you earn, the more you can save and invest. You probably won’t be able to max out your 401(k) each year if you’re earning $25,000/year.
Even if you commit to saving half of that annual salary each year, it won’t be as much as saving half or even 40% of a $75,000 salary.
That being said, it’s important to follow the previous point and get a solid grip on your spending habits and prioritize saving, so you don’t mismanage the extra money you earn.
According to this Urban Institute study, the size and incomes of the upper middle class have grown significantly from 1979 to 2014. In 1979, the upper middle class and rich controlled 30 percent of all incomes, but by 2014, they controlled 63 percent of all incomes. These results can be credited partially to inflation, but overall, people are focusing on earning more money.
To increase your income, you can gain more credentials and experience, get a part-time job or establish a side hustle, or simply ask your current boss for a raise.
According to Payscale’s Salary Survey, 57% of the respondents didn't ask for a raise because they were uncomfortable or scared. What they didn't know was that not asking for a raise could cause you to miss out on $1 million – $1.5 million in earnings over the life of their career.
You don’t want to leave that type of money on the table when you could be using it to build wealth.
6. Consider Entrepreneurship
You may have heard that the average millionaire has around seven streams of income. How is this possible? Certainly, they don't have seven full-time jobs. Millionaires tend to have their eggs in many baskets and get their income from sources like market investments, earned income, capital gains, rental property income, and of course, business income.
Entrepreneurship can be a great addition to your wealth building strategy if you’re interested in running your own business. While there is risk involved, being an entrepreneur means you can often do work you love, set your own hours, earn more money, and scale up your profits over time.
You don’t have to invest tens of thousands of dollars into your new business in order to become successful either. Many people are launching side businesses and online businesses for cheap.
You can work as a virtual assistant, freelance writer, wedding photographer, consultant, graphic designer, or even start a blog which is a great way to earn passive income over time so long as you’re willing to put in the effort up front.
7. Start Investing Now
Building wealth becomes so much easier and possible when you start investing. According to Spectrem, a Chicago-based research and consulting firm, nearly 47% of ultra-affluent investors who are worth anywhere from $5 million to $25 million invest with ETFs because they have low fees and are easy to use.
If you want to obtain wealth one day, the best time to start investing is now even if you don’t have a lot of money. You need plenty of time to allow interest to compound so your money can make you even more money.
You can start investing with as little as $100/month if you use a robo-advisor like Betterment which is great for beginners because they invest on your behalf and manage your portfolio for you. You can also start contributing to your employer-sponsored 401(k) plan and taking advantage of their match if they have one.
If your employer offers to match your contribution, that is basically like receiving free money to invest in your retirement so you should definitely take advantage of it.
If you don’t have that option, consider opening up a Roth IRA which allows you to contribute a maximum of $5,500/yr or $6,500/yr if you’re over the age of 50.
If you're interested in mutual funds or ETFs, Vanguard is a solid option, but their minimums range from $1,000 – $3,000.
8. Stop Trying to Beat The Market … Diversify Instead
Some people make investing out to be more difficult than it really is. Yes, there is risk involved like with everything else, but the market has been on the rise for the past 70 years and always recovers itself.
Therefore, it makes no sense to try to beat the market and predict which segments will outperform others.
Instead, focus on having a diversified portfolio with stocks and bonds, global market investments, and small cap stocks which are stocks from smaller companies.
Max out your retirement plans when you can and stay calm and grounded when the market shifts; it has always recovered.
9. Avoid Investments You Don’t Understand
Many people avoid investing altogether because they don’t understand it, are afraid of risk, or both. That being said, it’s best to avoid investments you don’t understand instead of investing altogether.
According to a NerdWallet experiment referenced by Business Insider, the best way to lower risk with investing is to keep it simple and implement a long-term strategy for success.
If you fail to diversify your portfolio, have no idea what you’re buying, or implement confusing and flawed strategies, you’re bound to lose money.
For example, you must be careful when following trends and even specific strategies that seemed to have worked for other people. While Tim Grittani is famous for growing a $1,500 investment to $1 million in three years by trading penny stocks, it doesn't mean you'll be able to do the same thing and see similar results.
Long-term strategies are safer and have a higher success rate. However, you still need to understand what you’re doing every step of the way.
To learn more about investing, talk to a fee-only financial advisor, learn how to read quarterly reports, take a legitimate class, or you can even practice investing in stocks online with the Wall Street Survivor game.
For most people, building wealth will be a long-term process that requires patience, discipline, and a little strategy.
You want to make sure you start by setting a specific and realistic goal about how you want to become wealthy and also define what wealth means to you.
While one person may want to retire early and travel the world, another person may want to build wealth so they can send their kids to college and give back to the community.
Regardless of your reasoning, the formula is simple: Lower your expenses and live on less than you earn, make more money, then invest and save as much as you need to reach your target number.
Don’t believe the myth that you have to be making six figures or more in order to build wealth either. Your income is important, but it’s not the most important thing.
When it comes to investing, we can’t stress how important it is to get started ASAP if your end goal is accumulating wealth. Also, don’t be afraid to invest outside of retirement because stocks have historically averaged an annual return of around 10% for the past 100 years.
Are you looking to build wealth? If so, have you narrowed down your goal and figured out how you’re going to do it?