Some people think that the key to building wealth is earning more and more money. Now that’s not entirely true. You can earn all the money in the world, however, if your financial decision making is not good then it’s of no use. This is why you should understand one of the most Fundamental Concepts Of Wealth Building Assets And Liabilities. If you understand the difference between two, then you can easily create wealth that would last long. Today, I’ll be discussing everything that you should know about your asset liability status.
Assets vs Liabilities: Simple Financial Wisdom for Beginners
While many Learn How To Make Money they fail when it comes to managing it.To increase your own net worth you’ll have to plan your asset liability status carefully. By understanding the Difference Between Asset And Liability you can truly take informed financial decisions. In this article I’ll break down the whole concept of asset and liability in an easy to understand manner for beginners and experienced alike.
What Are Assets?
If we talk in Simple Terms Assets are those things that give you money. Moreover, the assets have the potential to provide you with money and they increase in value over the period of time. Assets add to your net worth and also provide you with financial security. Sometimes assets also add to your income and savings. The crux is that assets generate income for you and are usually sold for more than what you’ve paid. So let’s see some of the Examples Of Assets to give you a better understanding:
- Money in your back account such as your savings and the cash in hand are the most Liquid Forms Of Asset that you have.
- If you have made investments such as Stocks, bonds, mutual funds, or ETFs they are also assets. These assets increase in their value over time and also generate dividends for you.
- Your home and property are also a part of your asset profile. They increase their value over time and also provide you with rental income when needed.
- Businesses that are currently generating revenue then are part of assets.
- Art, antiques, or even rare coins that can provide you with money when sold and appreciate in value.
What Are Liabilities?
Liabilities are something that you owe to somebody or usually takes money out of your pocket. Liabilities have a diminishing effect, which means they actively reduce your net worth. Generally the liabilities show your ongoing costs and the debt you have. Let’s see some of the Examples Of Liabilities for a better understanding:
- Loans and credit card debts are considered as liabilities. As this is the money that you owe and generally cost you interest payments.
- While your house is your assets, however if you have a loan then the mortgage is considered as liability as you have to pay it with interest.
- Cars depreciate with time and car loans have an interest factor to it making it a liability to you.
- Money spent on education is considered as investment however it is a liability until the education loan is paid off.
- Your monthly expenses such as rent, subscriptions, or utilities that are of recurring nature are also considered liabilities as they reduce your cash flow.
One thing to note is that one person’s liability is another one’s asset. For example if you have borrowed money from someone then you have a liability but for the lender it is an asset as its value increases with time and they are going to earn from it.
Why the Difference Matters?
You should understand Clear Difference Between The Assets And Liabilities so that you can make good decisions. As it affects your net worth. The net worth is the scorecard of your financial health.
Net Worth = Total Assets – Total Liabilities
Now see it like this if your assets are greater than your liabilities than your liabilities then you’re good to go. This essentially means you have more money than you have to pay. However, the opposite of this having more liabilities than assets than that is a dangerous situation. If the situation gets worse it can even leave you bankrupt. If your liabilities are more than this means that you’re living on paycheck to paycheck basis.
Common Misunderstandings
Now there is a general misconception when it comes to differentiating between the assets and liabilities. Some beginners often make a common mistake to take some liability as an asset. So let’s have a look at it.
1. Your Car Is Not (Usually) An Asset
While you may argue that a car helps you in transportation, saves time and provides comfort. However, the car loses its value over time which is entirely opposite to what an asset it is. Moreover, there is a cost associated with owning a car such as maintenance, insurance and fuel.
2. Your Primary Home Is Not Always An Asset
You may think that your personal home is an asset and can build equity but that’s not the case. As the house comes with taxes, maintenance costs, and mortgage payments, making it a liability. However, if your house earns you the money such as rental income then it can be a cash-generating asset.
3. Expensive Gadgets And Clothes Are Not Assets
Once again expensive gadgets, clothes and apparels are not an asset. While your designer may be nice but over the period it would lose its value. Now if you have a special edition rare or collectors watch this is something that can be an asset as its price would increase over time.
By understanding these simple differences you can make better and informed financial decisions.
How to Build Assets and Reduce Liabilities?
Now that you’ve understood what assets and liabilities are, let’s see how you can build Assets and Reduce Liabilities.
1. Pay Off High-Interest Debt
First you should start paying off debts that incur high interest, such as credit card balances and high-interest loans. The more you extend these liabilities the more it will cost you every month. They will continuously diminish your overall wealth.
2. Start Saving and Investing
Once you have enough left after paying your loans you should start investing to build your asset profile. You can start by investing in low risk options or in retirement accounts such as 401(k) or IRA.
3. Buy Assets, Not Liabilities
Whenever you’re about to make any big purchase in your life, ask yourself whether it would generate income or appreciate in future. If your response in negative then you are buying a liability. So don’t buy liabilities until it’s absolutely necessary.
4. Create Multiple Income Streams
One of the Best Ways To Increase Assets and kill your liabilities is by building multiple income streams. You can start a side hustle with your regular business. This could be anything be it freelance work, tutoring, or selling products online. Your goal should be to do activities that generate income, kill your debts and increase your assets.
So this was the information about assets and liabilities. Using your newfound knowledge you can make good choices as a beginner. Your goal should be to buy more assets and reduce your liabilities. Now you cannot completely cut off liabilities but with some effort you can reduce your unwanted expenses and increase your net worth.
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