We hear a lot of talk today about income inequality and the wealth gap between the haves and the have-nots. However, what is often left out of the conversation is the fact that people can and do start out at the bottom and become rich later in life. As a matter of fact, research shows that about 85 percent of millionaires were not wealthy growing up. This economic movement is called income mobility.
Economists at Harvard and Berkeley analyzed the numbers on 40 million tax returns from 1971-2012 and discovered that income mobility is pretty much the same now as it was 30 years ago. Today, 64 percent of people born in the poorest quintile of society rise out of that category and 11 percent of them rise all the way into the top quintile. Meanwhile, 8 percent born in the richest quintile fall all the way to the bottom quintile. (Apparently great wealth can make kids lazy and self-indulgent, and eventually poor).
So how are the non-rich becoming rich? It turns out that there is a disconnect between how we think it happens and how it actually happens.
Bankrate commissioned Princeton Survey Research Associates International to explore how people feel about their chances for prosperity, as well as how they thought most people attained wealth. Those surveyed guessed correctly that owning your own business is the top way to become wealthy. However, the combined 30% that guessed luck and frugality seem to have no concept of how wealth is created.
Your odds of winning the PowerBall are about 1 in 175 million and according to a recent PNC Wealth Management survey, less than 6 percent of the wealthy inherited their wealth. Saving your way to wealth by living frugally is impossible. Money not spent does not earn more money unless it’s put into a profit producing vehicle like investments or building a business.
Research shows that owning your own business and real estate investments are two of the most common paths to achieving wealth. There is a reason for that. Owning your own business and real estate have two principles: They have leverage and tax advantages. Also, starting your own business allows those without a lot of capital to invest their time and ingenuity rather than large sums of money.
While investing in the stock market is not a way that many people become wealthy initially, it is a way that the well-off become more wealthy. In other words, the more wealthy someone is, the more of their income typically comes from investments in the market. On the flip side, having a high-paying job is the ticket to an expensive lifestyle and nothing more lasting. When you make your money from a paycheck, that money stops the minute you stop working. So unless your are investing a portion of your significant income in other wealth-building vehicles, the wealth created is temporary.
Despite the headlines about diminished opportunity in America and the growth of the income gap, the American Dream is alive and well. And the recipe for wealth hasn’t changed much throughout the years: Be entrepreneurial, work hard, use your time and talents, and leverage your success into exponential gains.