Most people see generational wealth as something wealthy people do to give their descendants a head start in life. But, as popular as the term is, generational wealth is hard to achieve, even for the rich.
Throughout the world, passing down wealth through generations has been a challenge. While in the US, the saying “shirtsleeves to shirtsleeves in three generations” hints at the difficulty, in Japan, the common saying “rice paddies to rice paddies in three generations” also reflects this phenomenon. In Scotland, there’s the old saying, “the father buys, the son builds, the grandchild begs.”
Unfortunately, these sayings are a reflection of reality for most families who aim to build generational wealth. Indeed, 70% of wealthy families lose their wealth by the second generation, and 90% lose it by the third.
What is generational wealth?
Generational wealth represents assets that you pass down through generations. People who start life with generational wealth have a significant advantage compared to their peers who do not.
Though the focus is mainly on monetary or inheritance, generational wealth is also about habits and skills you transmit to your descendants. Without that, the wealth will be impossible to maintain over the long-term.
I recently interviewed a woman for my up-and-coming podcast, The Dreamers Podcast, who built considerable wealth in her early thirties with a modest salary by being disciplined in her saving and investing rate.
During the interview, she shared that though she did not receive millions from her parents, the financial education she received from her parents and grandparents at an early age is what got her to that point.
Why most generational does not survive past the second generation?
Many reasons explain the progressive wealth decline over time.
Creating wealth and preserving wealth require different skillsets.
One of them is that the skillset it takes to create wealth is not the same needed to preserve wealth.
That’s a topic former Wall Street Journal columnist, and author Morgan Housel addresses in his new book, “The Psychology of Money.” Housel highlights that while becoming wealthy involves being optimistic, taking risks, and thinking long-term, staying wealthy requires being frugal and pessimistic about the short-term.
Future generations usually do not have the same attitude towards wealth as first generation wealth creators do.
Typically, parents do not want their kids to struggle like they did early in life. Unfortunately, as a result, they often end up giving them a lot without them having an appreciation for the value of things. Undoubtedly, one who has not worked hard to build their wealth will never appreciate as much as the parent or grandparent who did.
However, often, in wealthy families, by handing everything to kids on a platter without them having to work for any of it, parents cannot teach kids the value of money. They give them the fish and forget to teach them how to fish in the process.
With each new generation, the ability to understand the value of a dollar gets even more diluted.
Cornelius Vanderbilt, an American businessman and CNN anchor Anderson Cooper’s great-great-great grand-father passed away in 1877.
At the time, he was the second richest man in the United States. He had an estimated fortune of close to $100 million, which is equivalent to $2.1 billion today.
While he was alive, Vanderbilt was known to be frugal. Unfortunately, like most first-generation wealth builders, he could not transmit that moderate lifestyle to most of his children.
Vanderbilt left close to 90% of his estimated estate to his son William. He left smaller amounts to the rest of his children. By the time William died in 1885, he had doubled the family’s fortune. But, by the third generation, the wealth had stopped growing. By 1925, most of the family fortune had been squandered.
Improper estate planning
Estate planning mainly focuses on properly designating who will receive assets and handle responsibilities. However, there’s an aspect of estate planning often overlooked: creating and sharing a vision for the estate for the second generation and beyond.
For many people, talking about money is taboo. As a result, parents do not always openly communicate with their kids about the estate. They often assume that, just like they did, their heirs will figure it out once they pass away. Unfortunately, it usually doesn’t happen that way.
How to build generational wealth?
Building generational wealth involves acquiring assets and passing down those assets to your children. Here are a few ways you can build generational wealth.
Invest in Real estate
Real estate provides an excellent opportunity to build long-term wealth, whether it is your home or real estate investments. Over time, real estate appreciates because there is a limited supply of land.
As the old saying goes, buying land is a good idea because they don’t make it anymore. Also, real estate is a great long-term play with investment properties as it provides an opportunity for steady cash flow.
Invest in the stock market
Investing is in the stock market is a great passive way to build generational wealth. As you focus on long-term investing, you do not have to pay attention to the market’s short-term movements.
The stock market can provide strong returns and be an avenue to build generational wealth. A great way to start investing in the stock market is through low-cow index funds for new investors.
If you would like to learn more about investing in the stock-market, read this article.
Invest in your children’s education
Investing in your children’s education is a great way to help them learn skills that will allow them to support themselves. With a good education, they would not have to rely on their inheritance to live a good life. Teaching life skills that you learned along the way that can serve your children is also essential. Another part of education often overlooked is making sure your children are financially literate.
Inadequate financial literacy is one of the main reasons why wealth rarely survives past two generations in most cases. Requiring adequate financial literacy training before inheriting wealth for generations to come is something to consider.
Pass down a Business
If you have or are building a business, you have the opportunity to pass the business along to your children. If you take the time to teach them the ropes and invest in their education, they might grow the business over time and expand the generational wealth.
Pass down values
Which financial values do you want to pass down to your descendants? If you want them to know the importance of saving, investing, or philanthropy, you can help them develop those habits from a very young age.
If you want to emphasize the importance of hard work, financial independence or any other habit, you can pro-actively instill those habits in your children.
Often, parents think that modeling good behaviors will be enough for children to pick them up. However, it does not always work out that way. Being pro-active by training your children and teaching them what you know will better prepare them.
Have a solid estate plan
A solid estate plan includes a written and enforceable will with a clear explanation of your wishes and specific instructions regarding your assets and beneficiaries. Depending on your situation and whether your kids are minor, going a step further and creating a revocable trust is worth considering.
Also, life insurance is a simple way to pass down wealth for anyone who doesn’t have a lot of wealth built up yet. Term life insurance policy is affordable and can help protect your family if you were to pass away.
A financial power of attorney and a durable power of attorney for healthcare are also important things to consider.
Having conversations and being transparent with your children about opportunities and challenges so they can be prepared is a step often overlooked. Going a step further, having a generational plan, a written plan to explain your vision, what you know, and offer guidance for future generations is another way to pass down generational wealth. The plan can serve as a compass for generations to come.
Transfer wealth while alive
In a Bloomberg article, author and personal finance expert Erin Lowry, makes a case for passing down your financial legacy to your children while alive. What parents often fear is that their children will not put the money to good use.
That’s a valid concern, but if you have done the work to make sure that your children understand the value of money, it might not be the case.
The upside is that you will be there to provide guidance and advise your children on the financial decisions they make.
Also, if your children are financially savvy, you will be able to witness them take your legacy further and expand the generational wealth
Final Thoughts on generational wealth
The first way to start building generational wealth is to get your finances in order and educate yourself about personal finance.
The next step is to transmit your values to your children and acquire assets. Having a solid estate plan and open conversations with your children about money is also very important.
Building generational wealth is not an easy task, but your family does not have to follow the trend and lose the family wealth by the third generation. It all starts with you.
“Legacy is not what I did for myself. It is what I’m doing for the next generation.” Vitor Belfort
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Related post: You will also enjoy Dream of Legacy.