How do rich people use debt to get richer?
Some examples include: Business Loans: Debt taken to expand a business by purchasing equipment, real estate, hiring more staff, etc. The expanded operations generate additional income that can cover the loan payments. Mortgages: Borrowed money used to purchase real estate that will generate rental income.
Investing in business expansion is one common answer to how to use debt to build wealth. Entrepreneurs often secure loans at reasonable interest rates to fund expansion plans, such as buying new equipment or acquiring a competitor.
Currently, wealthy households can finance extravagant levels of consumption without even paying capital gains taxes on the accruing wealth by following a “buy, borrow, die” strategy, in which they finance current spending with loans and use their wealth as collateral.
In simple terms, you can pull money out of one property in order to buy another. Equally borrowing money from a bank or other financial lender and using that cash to buy a property that is going to give you an income and increase in value over time, is a smart way to use debt to create wealth.
Business loans.
Business loans can be used to build wealth by providing financial leverage and helping with the purchase of updated equipment, attracting top-shelf employees, gaining tax benefits, and preserving personal funds.
For example, very rich people might borrow money to acquire a company if they think they can improve its profitability. They might also borrow to fund a startup business, or use margin in their brokerage account to invest in more assets that will help them build wealth.
Rich people use debt to multiply returns on their capital through low interest loans and expanding their control of assets.
How is this possible? The low effective tax rate arises in part because U.S. billionaires with large stock portfolios and other appreciated assets can borrow money using their considerable financial assets as collateral and then pay little to no taxes on the cash they use to finance their lifestyles.
Tax Shares in Tax Year 2021
The newly released report covers Tax Year 2021 (for tax forms filed in 2022). The newest data reveals that the top 1 percent of earners, defined as those with incomes over $682,577, paid nearly 46 percent of all income taxes – marking the highest level in the available data.
In 2020, the latest year with available data, the top 1 percent of income earners earned 22 percent of all income and paid 42 percent of all federal income taxes – more than the bottom 90 percent combined (37 percent).
Why do millionaires have so much debt?
Poor budget choices and failure to follow basic financial principles can send even the richest people with a high net worth into debt. Millionaires have more money than most of us can imagine. To put into perspective $1 million equates to 588 months, or 49 years, of the average rent price in America.
The paper identifies a cohort of what it calls “wealthy spenders”: borrowers age 65+, who have median total assets of $1 million but are at risk of financial hardship—despite having wealth in the top third of their age group. Among this group, more than a third of whom have second homes, 80% have credit card debt.
In fact, many wealthy people can and do "live off the interest." That is, they put a chunk of their fortune in a relatively safe collection of income-generating assets and live off of that—allowing them to be more adventurous with the rest.
Jerome Kerviel, The Most Indebted Person In The World, Owes $6.3 Billion To Former Employer, Societe Generale. In a hyper-competitive world where everyone strives to be the biggest, boldest and most famous, no one covets Jerome Kerviel record-breaking achievement. He is the most indebted person in the world.
Debt that helps put you in a better position may be considered "good debt." Borrowing to invest in a small business, education, or real estate is generally considered “good debt,” because you are investing the money you borrow in an asset that will improve your overall financial picture.
A Millionaire's Best Friend: Compound Growth
Here's a little secret: Compound growth, also called compound interest, is a millionaire's best friend. It's the money your money makes. Seriously.
Musk has long had arrangements to borrow money against the collateral of shares in the company he owns–the most valuable being the electric-car company Tesla, which is also the basis of most of the billionaire's wealth. Executives with large positions in company stock don't always like to sell.
ProPublica's widely read, ongoing, in-depth reporting on “a vast trove” of recently leaked Internal Revenue Service (IRS) documents revealed that billionaires like Bezos and Musk have all avoided paying any federal income taxes in previous years — some for multiple years, in fact.
Strategies a debt buyer can use include structuring a new set of terms for repayment with the debtor or applying new tactics through a collection agency to compel repayment. The overall approach of the debt buyer is to leverage the value of the outstanding, delinquent debt to see a return on their investment.
Instead, they can take loans against their shares. Securities based lending, securities based lines of credit, home equity lines of credit and structured lending are options for leveraging assets without selling them. These loans tend to have relatively low interest rates because they are collateralized.
How do rich people get rich?
No matter how much their annual salary may be, most millionaires put their money where it can grow, usually in stocks, bonds and other types of stable investments. Millionaires put their money into places where it can grow, such as mutual funds, stocks and retirement accounts.
Banks create new money when people go into debt
As people borrow more, more new money comes into the economy. All the extra spending this newly created money funds gives people the impression the economy is doing well, which encourages them to borrow even more. As the debt goes up, so does the amount of money.
While it's technically possible to ask a billionaire or millionaire for a loan, it's highly unlikely that they would agree to lend you $100,000 without some form of collateral or security. Most wealthy individuals are not in the habit of giving away large sums of money without getting something in return.
Keep in mind, though, that billionaires don't typically manage their own money and instead choose to work with a financial advisor to help with their asset allocation.
Be Super-Rich. Finally, it's quite easy to pay no income taxes if you're extremely rich. In our tax system, money is only subject to income tax when it is earned or when an asset is sold at a profit. You don't have to pay income taxes on the appreciation of assets like real estate or stocks until you sell them.
