You are building towards financial security, perhaps even abundance. Now I want you to go further.
I want you to consider not just the wealth you build and consume in your lifetime but plan for the legacy that you will leave behind.
But here’s the thing: The most essential requirement for creating wealth that can sustain through future generations is thoughtful decision-making.
You need to make these decisions while you’re still young, as you enter, and during your peak earning years.
Generational wealth refers to the assets you pass on to a younger generation, your children or grandchildren, or perhaps other younger relatives.
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According to the Brookings Institute, an estimated $765 billion flowed to Americans through inheritances in 2020. The racial wealth gap that we see today is the product of many years of past intergenerational transfers of wealth.
Wealth begets wealth.
But it’s not just about inheritance…
“Assets” can mean much more than money. Generational wealth is created by more than an inheritance of a large investment account.
Building wealth for generations
What sustains wealth across generations are the life choices made today that pay dividends decades later.
The most obvious case in point is college education: research has repeatedly shown that lifetime earnings are higher for college graduates.
If you can create the ability for your children to get a higher education affordably, you’ve made wealth for them just as surely as you would have by leaving them a large bank account.
Set up a 529 account for your children.
A 529 plan functions in many ways like an IRA; you invest contributions in a blend of stocks and bonds, adjusted for when you’ll need the money to pay tuition.
Contributions and earnings grow tax-free, and when used for a qualified educational purpose, there is no tax on withdrawals. Many states add in a tax deduction for at least part of your contributions. (Morningstar has a useful annual ranking of state 529 plans.)
The key to using a 529 successfully is to start when your child is very young, even if you can only contribute a modest amount at first. Just $200 a month over 18 years can grow to $90,000, assuming a normal market return rate.
And if your child does not attend college? The beneficiary can be changed easily, including to a grandchild. Generational wealth-building does not stop with just one generation.
Establish an “opportunity fund” for your children.
Create a dedicated investment account that you will contribute to over the years. When your child is grown, the account can seed their first business or even a house down payment.
While it won’t have the same tax advantages as a 529 account, you will have complete flexibility about using the money.
Consider creating a trust fund.
Should this “opportunity fund” be held as a trust account? There is no simple answer, but begin by focusing on two main considerations:
- If you place assets in a trust for your child, there is no way for you to use that money for any other purpose. If you struggle with commitment, this may be for you.
- Once your child reaches the legal adult age in your state, the account is entirely theirs. While you may have the intention that they use the funds to take advantage of a wealth-building opportunity, your now-adult child may seize the opportunity to buy a sports car.
…although you still may want to create an inheritance.
The challenge as a generational wealth-builder is to amass enough assets such that there is leftover at the end of your life. Again, this is where the need for thoughtful decision-making comes in; Where you build these assets matters.
Buy a home.
A person wiser than I once said that buying a home is not the best investment, but it is the best investment that most people will make. The reason is obvious; paying for a home is a forced savings mechanism, boosted by leverage. Much of the wealth that people inherit is in the form of home equity.
Don’t undo the good work of investing in your home by consuming the equity that you have built. That equity is your legacy.
Remind yourself any time you’re tempted by the siren call of a cash-out mortgage refinance that when you destroy equity in your home, you are reducing the possibility of creating generational wealth. To be clear, homeownership is not a magical panacea. Not every home will gain in value. Not everyone wants or has the possibility to be a homeowner.
That’s fine; there is no shortage of other long-term investment opportunities. But you will have to mimic the “forced savings” aspect of homeownership by investing in a way that makes it hard for you to waver on your intention.
Use a Roth account for your retirement savings.
There are several advantages to saving for retirement using a Roth-type account, whether a Roth IRA or a Roth 401(k).
For generational wealth-building purposes, the important features are that when your heirs inherit your Roth account, it passes to them completely tax-free. And because there are no Required Minimum Distributions from Roth accounts, you can keep the balance intact through your retirement years.
Protect your assets with insurance.
An excellent way to unwind the effect of all your good decisions is to fail to insure against the risk of dying early.
Life insurance that pays off the mortgage or for college can be the difference between whether there will be assets available from your estate to pass on or not. If your only life insurance is through your employer and you have young children, you likely need more coverage than you have.
What else can you do?
Step back and think broadly about how you can create a better economic future for your children. Saving enough so that there’s some left over after you die may not be a realistic goal or even what you desire.
Plan well for retirement, including medical needs.
One of the most tragic circumstances is when a woman – and it’s almost always a woman – must leave the workforce to care for an ailing parent, diminishing her ability to save for her future and that of her children.
The best way you can protect your children from having to deplete their own wealth, and the wealth of their children is to take care of yourself. This means not only saving enough but to the greatest extent that you can, living healthily so that hopefully, medical costs do not become overwhelming as you age.
The better care you take of yourself, both financially and physically, the more likely you will succeed in building generational wealth.