Assets vs Liabilities
Assets and liabilities are probably the most misunderstood, yet most commonly used terms used to evaluate what you own. When you truly evaluate both you may be surprised how much money you unnecessarily waste. Money that could be going into investments is tossed away into our consumer culture.
First, let’s look at the common defination of asset and liability. Assets are considered anything of value that you own and liabilities are the opposite, debt or obligations that cost you money. Many people have the mindset that assets are good things and liabilities are bad. While by defination this is true, once you step back and look at both you’re realize it’s not black and white. You can have bad assets and good liabilities.
For example, anything that depreciates is a bad asset. Exampes include vehicles and consumer goods. Vehicles are frequently your worst asset. I don’t even consider them an asset, I consider them a liability. Everything about them costs money. They depreciate very quickly and you have to pay for maintenance, insurance, and fuel. Very very very few vehicles increase in or even hold their value. If you’re in a financial situation where you’re just making ends meet the first thing you should do is get rid of a newer vehicle. Stick with ones in the $1,000-3,000 range. Low end vehicles tend to hold their value much better. If you run into a high cost maintenance item, such as a transmission rebuild, you can scrap the car and get another. In the mean time you can invest all the money you would have spent on monthly payments. In no time you’ll be earning a large enough return to make those monthly car payments!
I can go on and on about bad assets. Most everything people own is a bad asset. The top level good assets are ones that generate cashflow, such as investment real estate. The next level down would be your personal residence, assuming you own it, and other assets purchased as investments. Below that everything becomes a bad asset.
Liabilities work the same way. A mortgage on a rental property is a great liability! It helps you leverage your money to generate a much higher return than you could have obtained by purchasing the property outright. Any liability used to leverage an investment can be considered a good liability. HOWEVER, be warned that over leveraging is a very bad position to be in. This could be real estate with an interest only mortgage (VERY dangerous), borrowing money to use for speculative investments (equities, commodaties, etc), or using a margin investment account without properly understanding and addressing the risks. Other debt and liabilities are bad, such as credit card debt or a vehicle loan.
To sum up, if you reduce your bad assets and liabilities and put that money into good assets and liabilities you will rapidly find yourself increasing your networth. Once you find yourself in a comfortable situation you can continue enjoying those bad assets – without the liabilities since you’ll have the money up front.
So what do you do? First, STOP SPENDING! You don’t need all the junk that the media pushes on you. If something isn’t required for you to live a normal life (such as dishes) don’t buy it if you don’t have the extra cash to pay for it. Invest first, spend later. Next, get rid of the junk you already own and never use. You can put that money to good use instead of having it depreciate away in the corner. My favorite resource for getting rid of stuff: Ebay. Prices are low and fees are high but the market is liquid. You can sell almost anything on Ebay.
Once you get that money invest it! Don’t spend it. Put it straight into a money market, mutual fund, stock, bond, option, property, whatever! Put it in a place where it can grow untouched, somewhere that you won’t be tempted to spend it on the newest fad item.
