How To Start Building Generational Wealth

Family saving money to piggy bank to show generational wealth

One of the greatest gifts one can give their offspring is financial security. Life is so much easier when there is ready capital to fund pursuits without incurring debt, capital to support a business idea, or a home one can inhabit without taking on a mortgage. 

All of these are examples of what generational wealth can do to make life better for children — and their children as well. So, let’s take a look at what generational wealth is and discuss how to build it. 

What is Generational Wealth?

In the simplest terms, generational wealth consists of financial assets passed down from one generation of a family to the next. In many instances, you may have benefitted from generational wealth without realizing it. Financial education, spendthrift values and smart money habits are also examples of generational wealth, as they help younger people get started in life without taking on bad debt. 

We see examples of this all the time, in which young people, saddled with enormous amounts of student debt, must put off the purchase of their first home, which in turn means they must forgo years of accumulated equity. The money they could’ve put into a home is instead diverted to pay for their education.  

Or, they fall into the trap of spending more than they earn, using credit cards to support a lifestyle their incomes won’t sustain. One of the most important aspects of generational wealth is teaching children how to use money, rather than allowing money to use them.

As an example, let’s say a young couple from a low-income background decides they don’t want to see their child endure the same struggles they’ve encountered as an adult. So, they live a very frugal life to save as much money as they can. 

When they die, they pass that money on to their only child, who uses it to buy a rental property. That child then uses the income from that property to buy another one and continues the same pattern throughout their lifetime. That person then bequeaths those holdings onto their children, who, in turn, continue the process. 

Within a few generations, that family is in control of a sizable real estate empire, all because its ancestors placed the comfort and well-being of future generations ahead of their own. 

By the way, real estate is but one example of generational wealth.

Others include:

• Life insurance policies

• Investments

• Family enterprises

• Antiques and family heirlooms

• Collectible items such as works of art

Why Generational Wealth is Important

We touched upon this briefly above, but the point warrants more attention. The presence of generational wealth can give a family a broader range of options and more choices in terms of how they live. 

Few things in life are worse than being trapped in a profession in which the potential for income is great – and with which one’s lifestyle is inextricably entwined — that you absolutely despise. One has more room to be creative when freed from the worries of meeting day-to-day expenses. 

Having a foundation of wealth can provide the ability to pivot into another occupation, free of the worries that go along with having to sacrifice to do so. 

Now, with that said, passing on generational wealth does not mean you’ll shield your family from ever experiencing hardships. However, it can make them easier to manage because your children will have more options. 

Generational Wealth and the Wealth Gap

As we illustrated above, building generational wealth and passing it on establishes a foundation upon which your family can build.  The Federal Reserve released a report  in 2018 in which it was revealed that nearly 40% of intergenerational wealth transfers among Americans went to households in the top 10% of the population, in terms of income. 

Meanwhile, only about 20% went to families in the bottom 50%. What’s more, the report revealed that over 50% of intergenerational transfers went to the top 10% in terms of wealth, while only 8% went to the bottom 50%. Based upon these figures, the Federal Reserve estimates 72% of the wealth held by the wealthiest 10% can be attributed to intergenerational transfers.

Beyond statistics, studies have shown that post-secondary education is critically important to both the generation and maintenance of wealth. A family capable of paying for its children’s college education gives their offspring an edge when it comes to accumulating and growing wealth.

Ways to Start Building Generational Wealth

The most important thing you can do to start building generational wealth is embrace saving and investing. Money you don’t spend is money that can be put to work for you. 

Supplemental Income – One of the best ways to start is to develop as many income streams as possible. One can take a second job, pick up some gig work, or buy and sell items online. Do whatever you can to supplement your income so that you can establish an emergency fund to help you weather financial setbacks and pay off any debts you may currently be carrying. 

Eliminate Debt – Living debt-free is very important to creating wealth, as the interest you pay on credit card debt and other financial obligations would be better used as investment capital. With that said, there is good debt and bad debt. Good debt is a financial obligation you take on to give you the ability to earn more money. 

Buying a car on credit can potentially be good debt, if that car is absolutely needed to get you back and forth to work. Educational loans can be good debt if the knowledge you’ll gain will improve your earning ability. In other words, money borrowed to help you make money is generally considered  “good debt”. Money borrowed specifically to purchase goods and services simply for the pursuit of pleasure is more likely to fall under the heading of “bad debt.”

Invest Money – Often touted as one of the most powerful forces known to humankind, compound interest can help you expand your wealth passively. In other words, good investments earn money without any further physical effort on your part. Investing money, then reinvesting gains from those investments, will grow your net worth and shield your wealth from inflation. 

Investment options worthy of consideration in this regard include:

    • Stocks

    • Bonds

    • Mutual and exchange-traded funds

    • Retirement investment accounts

    • Annuities

    • Cryptocurrencies

    • Commodities

    • Certificates of Deposit (CD)

    • Real estate

Alternative investments, such as those offered by Yieldstreet, can also potentially be effective in this regard. Moreover, they can provide you with a degree of protection from the volatility that can affect the stock market through portfolio diversification.

Purchase Life Insurance – This will provide your family with a financial benefit upon your death. Moreover, the proceeds receive favorable tax treatment. The benefit of a life insurance policy is passed directly to the person designated as the beneficiary, with no income tax liability. Placing that policy within a trust can help it avoid estate taxes as well.

Start a Family Business In addition to serving as a point around which a family unit can rally, family businesses account for most of the world’s wealth. In fact, such businesses contribute 57 percent of the nation’s GDP. A business can be handed down from generation to generation or sold to generate investment capital to fund a different enterprise. 

Maintaining Generational Wealth

Once the decision is made to create generational wealth and is acted upon, the challenge becomes inculcating your offspring with a healthy attitude toward wealth and finances. It’s all too easy to create a comfortable life for your children, without helping them develop an understanding of why their lives are the way they are. As a result, according to an article in Money magazine, 70% of wealthy families see their fortunes squandered by the second generation, and 90% by the third. 

In many cases, this happens because the kids lack financial literacy. They don’t know how to handle money. Chris Heilmann, chief fiduciary executive of U.S. Trust, told Money the average recipient of an inheritance buys a new car within 19 days of getting the money. Thus, one of the keys to maintaining generational wealth is finding a way to impress upon your progeny the value of preserving money, rather than squandering it on depreciating assets. 

Now, this is not to say all fun has to be drained out of life solely to preserve wealth. However, the family fortune should also be treated with the respect and reverence it deserves. After all, generational wealth can ensure a comfortable lifestyle for those who understand how to use it properly.

Conferring the Importance of Wealth to Descendants

It’s important to talk about money.  Yes, we know that such discussions have traditionally been considered taboo. And, popular culture is rife with examples of the wealthy saying, “We don’t talk about money, because it’s crass.” 

However, if you fail to talk to your children about money, how it works, and more importantly, how it works for your family, you could be dooming them to a lower standard of living than they enjoyed as children. In other words, it’s critical to help your youngsters learn how to manage the family fortune.

Disclose the details of your family’s wealth to your children and help them understand the importance it plays in all your lives. Show them how money works and teach them to use it well. Do the same for your grandchildren and you can help your family’s wealth carry forth for two succeeding generations — and even further if they follow your example.

Teaching children the value of work and making them earn the things they desire is important as well. Handing them those things — as opposed to seeing to it that they earn them — sends fallacious messages about the way the world works. Further, helping your children understand the value of work goes beyond preserving family wealth. It provides your young with a sense of the importance of being useful. It helps them find purpose. It also helps them understand that money is a tool rather than a toy. 

Along those same lines, teach your children about budgeting and show them how you use money to keep the household functioning. Help them develop the financial management skills they’ll need to preserve the family’s legacy.

Protecting Wealth During Transfers

In general, most generational wealth is transferred as inheritances upon the event of a death. Significant financial liabilities can ensue if handled poorly. The good news is that most inheritances in the U.S. fall below the threshold for incurring federal estate taxes, which, as of this writing, (February 2022) is $12.06 million. Moreover, the federal government does not impose an inheritance tax. 

However, residents of Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont and Washington will encounter estate taxes. Most of those states exempt the first $1 million; some set the exemption even higher. The smart thing to do in this regard is to find out exactly what the current parameters are for your state, as laws change from time to time. 

The other concern of which you need to be aware is probate. Laws vary from state to state, but probate is almost universally required when an individual dies without leaving a will (intestate). The state steps in to ensure that all debts are paid and oversees the estate’s distribution. There are additional steps you can take to protect your assets from probate before you die. You’ll find more detailed information on this in our article, What Is Estate Planning and Why Is It Important?” 

Planning Generational Wealth Transfers Before Death

However, the best way to protect the transfer of generational wealth is to plan and begin executing it while you’re still alive. Crafting a will is a must, as is informing family members of its details and your reasoning for the choices you make — before you die. This can help them understand your decisions firsthand and hopefully minimize familial infighting that could result in costly litigation. 

Establishing trusts, providing financial gifts, and covering educational and medical expenses can also help you transfer generational wealth while you’re alive to help you keep money in your family. For example, covering the down payment on a family member’s first home reduces your tax liabilities, as does passing along gifts of money or property to your family. 

Couples can give up to $30,000 annually to each of their children, without incurring gift taxes. Tuition paid directly to a college or a university is also exempt from gift taxes, as are eligible medical expenses, when paid directly to a health care provider.

Assets placed within a trust are protected from probate and certain taxes. This enables you to shelter your children’s inheritances from legal fees and certain taxes. It also gives you the ability to dictate the circumstances under which your children will be granted access to their shares of the family fortune. For example, you can specify certain milestones in life, such as reaching a certain age, or earning a college degree before getting the money.

In Summation

Creating a legacy of generational wealth within your family is one of the greatest things you can do for your descendants. Accruing assets to pass down from one generation to the next can provide your children (and hopefully, their children and their children’s children) with the ability to live their lives on their own terms.

In other words, it’s potentially a very worthy pursuit.

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