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Building wealth is a process. It’s one that will span your entire life. But even if you surpass your personal goals, you can always pass your financial legacy on to multiple generations. The more you save, the more you can invest, which puts your money to work for you as you aim to generate passive income. And of course, a high-level view of your financial assets can help you and your planner ensure everything is working in harmony toward your goals.

But with all that in mind, you may be wondering what you can do to put your wealth creation plan on the right track to help enable your family’s financial stability for future generations.

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WHAT DOES GENERATIONAL WEALTH REALLY MEAN?

Before we jump in, it’s important to first understand what it is we’re talking about when we say “generational wealth.”

On a basic level, it refers to the accumulation and transfer of resources from the older to the younger generation – typically including any financial assets such as a family business, real estate properties, investments and valuable possessions – but true legacy wealth goes beyond capital itself.

A generational wealth transfer should provide future generations with the financial literacy, stability and resources to continue to prosper and grow their family’s overall economic well-being over time.

However, building lasting wealth is no simple feat, especially if you’re starting without an already strong financial foundation.

IS BUILDING GENERATIONAL WEALTH STILL POSSIBLE?

There’s no getting around the unfortunate fact that there is a wealth gap in the U.S. – one exacerbated by systemic inequalities that disproportionately impact marginalized groups.¹ Historical and ongoing discrimination in housing, education and employment have also left many minority families at a distinct disadvantage.

Despite these economic challenges, it’s still possible to achieve a lasting financial legacy. We believe there are five key steps to building wealth.

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5 STEPS TO HELP BUILD LASTING FAMILY WEALTH

1. ELIMINATE CREDIT CARD DEBT

Hanging onto credit card balances can have a cumulatively negative effect on your financial stability. If you expect it to take more than six months to pay off your balances, focus on eliminating credit card debt first, as it typically has a higher interest rate. If you have multiple cards, pay more on the one with the highest rate first, then the next highest and so on. Always pay at least the minimum on your lower interest cards.

On the flip side, auto, college and mortgage loans typically have much lower interest rates, so you should pay those according to schedule. Unless you already have your other debts covered and you have substantial cash reserves, don’t be tempted to pay off these types of debts early.

2. PARTICIPATE IN YOUR RETIREMENT PLAN AT WORK

If you are in a moderate to high tax bracket (say, greater than 12%) and you expect to pay off any remaining credit card debt within six months, it’s best to participate in your employer’s pretax retirement plan to the greatest extent possible. After addressing your credit card debt in step one, the next step would be to max out your retirement plan contribution. If you feel that you can’t afford it, start with a smaller amount and increase it every year until you reach the maximum. Make sure to operate within your comfort zone and make only pretax contributions.

If you’re in a lower tax bracket (say, less than 12%), a Roth 401k or 403b may be a better fit.

If you’re married and one spouse does not have a retirement plan at work, consider investing in a spousal IRA.

The self-employed have options too, so don’t forgo this valuable savings vehicle. The more money you save, the more you can accumulate.

Choose an allocation appropriate for your goals and risk tolerance. Consider one composed of both U.S. stocks and international stocks and also have some exposure to bonds to help cushion against stock market declines. This may be achieved by investing in ETFs and institutional mutual funds. Generally, we recommend having no more than 5% in any one stock – including your own employer’s – because more than that could prevent you from achieving adequate diversification. In addition, being over-concentrated in one security can cause unnecessary volatility and risk with your retirement savings.

Once you pick your diversified portfolio, stick with it, investing your paycheck deductions in the same investment mix over the long term so you can benefit from any compound growth. Of course, if your time frame, risk tolerance, needs or goals change at any point, you may need to revisit this approach. And don’t forget, your account will need to be periodically rebalanced to maintain the appropriate allocation.

3. BUILD YOUR CASH RESERVES TO THE APPROPRIATE LEVEL

The amount you should keep in cash reserves depends on two factors – your monthly expenses and the stability of your income. So consider:

• What are your mandatory monthly expenses?
• How stable is your income? For example, are layoffs possible? Are you a business owner with fluctuating income? The more stable your income, the lower your reserves can be.
• Do you have any large, one-time expenses coming up?

Generally, your reserves should be somewhere between six and 24 months’ worth of spending, depending on your income stability.

Of course, you’ll want to be sure your reserves are readily accessible if and when you need them. So, consider storing reserves in one of the following:

• Savings account (including high yield savings accounts) 
• Checking account
• Money market fund (bank and brokerage)
• U.S. Treasury bill (T-bill)
• Bank CD (preferably that matures within one year)
• Brokerage CD
• U.S. savings bond
  • Note: Depending on when you choose to cash out savings bonds, they may have not yet matured to their face value or have limitations with their liquidity.

For the same asset accessibility reasons, you should not store your reserves in any of the following:

• Cash positions in a managed portfolio: These would trigger rebalancing if withdrawals were taken from this cash position.
  
• U.S. Treasury notes: Notes mature in two to 10 years, which is too long to have to wait to get your money back for an immediate need.
• U.S. Treasury bonds: Even worse, these mature in more than 10 years.
• Commercial paper: ��As an unsecured debt issued by companies, this carries default risk for investors as compared to U.S. Treasurys. Changes affecting commercial paper as well as the overall market conditions can happen so quickly that investors may not have the opportunity to sell, making it generally less liquid than other options.
• Life insurance cash values: While they can be considered a cash equivalent, they’re not suitable for use as reserves because of the potentially large surrender penalties, tax risks and other restrictions you could face.
• Fixed annuities: These are the insurance industry’s version of bank CDs, which typically offer a slightly higher rate, but they’re not acceptable as reserves because of potential tax penalties and surrender charges.
• Treasury Inflation-Protected Securities: TIPS mature in five, 10 or 30 years, which is far too long for cash reserves. Plus, if you sell prior to maturity or if deflation occurs, you could lose money.

4. INVEST IN A DEDUCTIBLE IRA AND/OR DEDUCTIBLE SPOUSAL IRA (IF ELIGIBLE)

Depending on your adjusted gross income, you and/or your spouse may still be eligible to contribute to a deductible IRA even after putting the maximum amount into your company retirement plan. Deductible IRAs offer two major benefits: you get a tax deduction for the money you contribute; and any interest, dividends or capital gains that accumulate in the plan are also tax-deferred until withdrawal.

If you’re not eligible to invest in a deductible IRA or you’re in a low tax bracket (12% or less), you should consider a Roth IRA instead. In any case, look to avoid non-deductible IRAs, which do not entitle you to a tax deduction and require complex tax documentation.

Your financial planner can help you determine your eligibility, compare options and decide which IRA may be best for you.

5. CREATE AND FUND A TAXABLE INVESTMENT ACCOUNT AND CONTINUE TO ADD TO THE ACCOUNT MONTHLY

Once your tax-advantaged retirement plan contributions have been exhausted, build assets in an investment account and contribute to it monthly. Additionally, if your 401k plan allows you to contribute after-tax dollars and it will not affect your current lifestyle, consider adding additional after-tax dollars to your 401k plan and converting those dollars to a Roth when permitted.

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KEEP YOUR FINANCES MOVING FORWARD

Take these five steps and you can be on your way to building wealth and keeping your financial plan on the right track. There are many nuances to each step, however, so consulting a financial planner may be the best thing to do first.

Above all, get started and keep at it. The number one thing that stands between you and the future is procrastination – waiting until tomorrow to do what you can do today. The sooner you put your money to work, the sooner you can have the opportunity to take advantage of one of the most powerful forces for wealth creation: compound interest.

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WHY WORK WITH A FINANCIAL PLANNER ON BUILDING GENERATIONAL WEALTH?

No matter the market conditions, every year inflation erodes your purchasing power by making things more expensive, and that can work against your ability to create wealth. One way you can combat the effects of inflation is to have a financial planner help you develop a diversified investment portfolio that keeps up with – and hopefully outpaces – the rate of inflation over time.

Your financial planner can help guide you through each step, reducing the temptation to procrastinate, and helping you stay on track. Keep that in mind as you look for new ways to build wealth that can help carry your financial goals and future generations forward.

Searching for a new planner who will help you work toward your financial success? Connect with our team today.

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¹Federal Reserve Bank of St. Louis. (2024, February 7). U.S. Wealth Inequality: Gaps Remain Despite Widespread Wealth Gains. Retrieved July 23, 2024, from https://www.stlouisfed.org/open-vault/2024/feb/us-wealth-inequality-widespread-gains-gaps-remain