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FINANCE | Your Personal Wealth Creation Plan #2.

KINGSTON, Jamaica, April 2, 2021 - Last week we examined wealth and established that it is not based on the assets in our control, but is dependent on our stake in those assets-equity. This week we will look at how to practically develop your own wealth plan.


The Wealth Plan

When drafting a plan two critical factors to consider are the purpose and the duration of the plan. To commence the development of the plan let us meet John Williams, a thirty-year-old man living in Pembroke Hall, Kingston (hypothetically of course).

PROFILE OF JOHN WILLIAMS

John Williams is a teller who works at a credit union in Portmore, Saint Catherine. He lives alone and attends evening classes where he is completing a diploma in Business Administration with a recognized tertiary institution.

This image for Image Layouts addon

Nathanael Samuels

Chartered Accountant &
Business Consultant

His parents are farmers living in Southern Saint Elizabeth who cannot provide him with further financial support. The statements below highlight his monthly income and expenditure as well as his financial position at 1 April 2021.

PREPARATION OF PERSONAL FINANCIAL STATEMENTS

The development of a personal wealth plan begins with the documentation and assessment of your total source of income and expenditure. This should be accompanied by a list of all your assets and liabilities, with the aim of calculating your current equity(wealth). The following are the financial statements for John Williams prepared at 1 April 2021.

JOHN WILLIAMS

MONTHLY INCOME & EXPENDITURE

Income

                  $

Monthly Net salary

95,000

Expenditure

 

Rent

30,000

Utilities

15,000

Bus fare

4,000

Entertainment

12,000

Food

30,000

Total Expenditure

91,000

Surplus

4,000

 

JOHN WILLIAMS

STATEMENT OF FINANCIAL POSITON AS AT 1 APRIL 2021

 

$

$

Assets

   

Furniture

 

150,000

Equipment

 

100,000

Cash in hand and at bank

 

30,000

Total assets

 

250,000

Less Liabilities:

   

Bank  Loan

120,000

 

Rent accrued

30,000

 

Total liabilities

 

150,000

Net Assets

 

100,000

     

Equity: John Williams

 

100,000

 

Most individuals will tell you that they cannot invest or create wealth because they do not have enough income. There are two broad solutions available if income is assumed to be inadequate.

  1. Reduce expenditure
  2. Increase income

In the case of John Williams, he has a marginal surplus of $4000(4.21%) of total income. Now this may seem rather small but the critical thing is to ensure that the surplus is invested to earn interest. John came to me for advise yesterday and we drafted the following wealth creation plan for the five-year period April 1,2021 to March 31, 2026.

Let us keep it simple, first define your general objective in measurable terms. In the case of John, the general objective is to increase equity from $100,000 to $3,000,000 in five years’ time. Indicating the increase is 3000%, tells us of the hard work he will have to put in. You must believe in your plan. Below is the strategic aspect of John Williams’ wealth creation plan.

JOHN WILLIAMS

STRATEGIC WEALTH CREATION PLAN FOR THE FIVE-YEAR PERIOD ENDED 31 MARCH 2026

  • General objective: Increase equity (personal wealth) by 3000% from $100,000 to $3,000,000 over the five-year period April 1 ,2021 to March 31,2026.
  • Strategies to attain objectives
    1. Reduce monthly expenditure
    2. Increase monthly income
    3. Change the asset profile by investing in income earning asset
    4. Borrow primarily for investment rather than consumption
  • Targeted Annual Equity
  1. Year 1: Triple Equity from $100,000 to $300,000
  2. Year 2: Double Equity from $300,000 to $600,000
  3. Year 3: Double Equity from $600,000 to $1,200,000
  4. Year 4: Double Equity from $1,200,000 to $2,400,000
  5. Year 5: Increase Equity by 25% from $2,400,000 to $3,000,000

The operational aspects of the above plans have not yet been developed


SETTING REALISTIC TARGETS AND THE IMPACT OF INFLATION

The strategies to attain the increased income levels desired each year should be realistic. This should also be matched with optimal commitment to your wealth programme. Talking about a wealth programme is easy but believing and sticking to the plan is the beginning of your success.

Never forget the impact of inflation on your investment. Jamaica is a country with high annual levels of inflation which eat away constantly at the value of your assets and consequently your equity(wealth). For example, in 1981, a student going to high school, one dollar ($1) could provide lunch for two days. Today I have to give my daughter $600 a day for lunch in high school, that is a 60,000% increase!!!

How do we protect our investments against inflation?

Investment in Non-Monetary and Monetary Assets

To protect the value of your investments it is necessary to diversify and invest in assets which keep pace with inflation and provide capital gains. You should place your cash resources in a portfolio of non-monetary assets and monetary assets that give a return that is higher than the rate of inflation.

Non-monetary assets are assets that do not have a fixed rate at which they can be converted into cash. Typical non-monetary assets include land, houses (real estate), jewelry, and motor vehicles-subject to depreciation. Investments in non-monetary assets keep pace with inflation and give rise to capital gains. Capital gains result from the increase in the market value of these assets due to several factors including increased market demand.

Monetary assets are assets which can readily be converted into a fixed or precisely determinable amount of money, these include cash and cash equivalents, such as cash on hand, bank deposits, investment accounts and notes receivable. Investments in monetary assets are subject to the ravages of inflation.

Case in point (1):

Marcelle and her brother John both have $3m each at 1 January 2020. On the date Marcelle buys a small apartment for $3m, while John place his $3m on a fixed deposit at 12%.

Results at 31 December 2020

Market Value of apartment owned by Marcelle:       $4.2m

Balance on fixed deposit owned by John:                $3.36m

Who has gained and who has lost?

  • Marcelle has gained $1.2m in value (note a part is inflationary profit)
  • John has lost $0.84m ($4.2m-3.36m). An apartment he could afford at the start of the year he is no longer able to afford.

Marcelle is in a better position than John since she invested in real estate which keeps pace with inflation and provide capital gains thus, increasing wealth. On the other hand, John invested his money in a monetary asset, whose return was not great enough to compensate for the impact of inflation and so has lost value on his investment. (Note that in a period of deflation, due to the reduction in demand, capital losses could be realized-an unlikely scenario in Jamaica where deflation is uncommon)

Case in point (2):

If you deposited $30,000 cash in the bank and earned 10% interest for the year, then your balance would be $33,000 at year end. If at the start of the year $30,000 could by a printer (XP-12) and at year end the printer(XP-12) cost $45,000, the purchasing power of your money would decline by $12,000 ($45,000-$33,000).

The impact is significant as inflation would completely erode your income of $3,000 on the deposit and leave you with a $12,000 purchasing power deficit. This means a computer you could afford at the start of the year, you are now unable to purchase at year end, despite earning $3,000 on your deposit. This means your money in the bank did not keep pace will inflation and you have, therefore, lost value.

Therefore, if you invest in monetary assets during periods of inflation, the return on the asset must exceed the rate of inflation so you can earn a profit. (Example interest rate received 15%, inflation rate 10%, therefore profit is 5 percentage points).

CONCLUSION

The following points can be determined from our discussion regarding your personal wealth plan:

  1. To start your wealth creation plan, you need to determine your:
    1. income sources and expenditures
    2. statement of assets and liabilities at the start, so you can calculate your equity(wealth).
  2. You have to consider the impact of inflation on wealth and so choose a portfolio of non-monetary and monetary assets to invest in.
  3. Non-monetary assets keep pace with inflation and generally preserve value and provide capital gains (or losses).
  4. Monetary assets do not keep pace with inflation and are therefore only beneficial if they yield a return greater than the rate of inflation
  5. State clearly your wealth creation objectives in measurable terms
  6. Draft an operational plan to show the methods that will be used to achieve your annual wealth creation objectives.

Join me next week when we will prepare the operational plan to show how the annual equity growth targets, for each of the five (5) years for John Williams will be achieved. We will also look at the benefits of investing in US dollar securities. Remember to observe all COVID-19 protocols and stay safe!!!

Last modified onWednesday, 14 April 2021 18:55