When you have a lot of assets, it is very easy to borrow money. Lenders will practically hand over huge sums of cash, at favorable (low) rates, because they know that if anything were to happen the wealthy have the financial resources to pay them back. Instead of using debt to fund more debt (like credit card purchases for designer clothes), a smart investor will use loans to fund something that will make them money. And if the return can outpace the cost of the loan, they have essentially received that profit for free. This is the idea behind using leverage. Leveraging is using borrowed capital to invest in something of higher value.
The Basics (or why you probably didn’t pay cash for your house)
Did you pay cash for your house? Most people would say, ”No, of course not.” We put a small payment down and we took out a mortgage from the bank. We do this so that we can buy a bigger house that we otherwise would not have been able to afford if we were forced to pay up front. Every homeowner is hoping that this will be a good investment. Not only do they have somewhere to raise their family (and put their stuff), but while they are paying off the mortgage the real estate is appreciating in value. So that when they do decide it is time to move on, they can sell, make a profit, and know that it was all well worth it. This is leverage at its finest.
But, and this is an important point to get across, rich people can afford to pay cash for that dream house. They don’t because they know they can use the cash for something else that makes them money.
Taking it One Step Further
As mentioned before, the wealthy have a very easy time getting banks to loan them money. And, because they are just about the perfect customer for these institutions, high spenders with little risk, they enjoy the most favorable lending rates. So instead of using cash or selling property, affluent individuals tend to take advantage of their preferred status by taking loans to fund investments. When it comes to big expenses, like starting a new business venture, they can take out loans using their assets as collateral.
This describes how the wealthy use debt to finance instead of selling off assets. The (huge, enormous, exponential) benefit of this is that your assets continue to appreciate in value (or your cash investments continue to grow in the market), and you get to do what you want with the money that otherwise would have been tied up. In turn, you pay a monthly loan payment that your salary can afford, and over a period of time you pay off your debt.
Look for Opportunities
Leverage is a tactic used by the affluent to increase their earning ability, and generally, it is a strategy that only the wealthy can afford. However, ordinary investors are doing the same thing at a smaller scale when they take out a mortgage. They are using debt to finance property that otherwise would have been out of their price range in a bet that the asset will be worth more in the future. This is Leverage. At a high scale and in a favorable borrowing environment, it can easily provide income that will exponentially increase your ability to grow wealth. If you are a high earner, you should always be looking for leverage opportunities. Mission Critical FPI specializes in uncovering ways to accelerate your ability to save. Give us a call today.