Frugal people by definition live below their means. Very often, a measure of self-discipline, delayed gratification, or even sacrifice is involved to accomplish this. As a result, a frugal person’s money tends to accumulate.
If building up a sufficient “pile” in order to achieve independent wealth is the goal, then beware. There are many ways you could be putting your hard-earned savings into someone else’s pocket. Here are five:
Inflation. The US dollar is no longer backed by gold, and its value is beholden to its relative scarcity. Make more of them, and each is worth a little less. This is the essence of inflation. The Federal Reserve is the nation’s central bank, which issues dollars, and lately they’ve been making more of them than usual. Real wealth is evaporating right out of saved money.
Paltry investment returns. Here’s the real kicker: Even as it prints more money, the Fed is also holding interest rates to historic lows. This means that savers cannot get interest rates in savings accounts that will keep up with inflation.
Taxes not indexed to inflation. Returns on investment are taxed at their nominal rates without being indexed for their loss in real value due to inflation. Currently the tax rate is at 15%. Starting next year, those taxes rise to regular income rates.
Theft. Even “safe” investments aren’t anymore. Savers should sit up and take notice of what happened with the MF Global implosion. It wasn’t just that the brokerage heavily leveraged itself on European debt, or that they “borrowed” from money that wasn’t supposed to be touched, or even that JP Morgan swooped in and gobbled up what legitimately should belong to the brokerage account holders. There was also the egregious behavior of the Chicago Mercantile Exchange. As a clearing house, its job was to maintain the integrity of the market by backstopping accounts like this so investors could disentangle themselves from the ailing brokerage and retrieve their segregated funds. Instead, the Merc froze the accounts while trading was still taking place, ensuring that the little guys lost everything, and letting the big guys recover more. Small investors are more vulnerable than ever before in the current economy.
Death taxes. In places where home prices are high, like my home state of California, becoming a “paper millionaire” isn’t that hard, and starting next year, assets of over a million dollars will be taxed at a whopping 55%. This is money that was already taxed when it was earned, but when the earner dies, it gets taxed again. Many simple homeowners with small businesses will be affected, causing heirs to have to dismantle or sell the business in order to pay Uncle Sam.
Liability. Anyone can sue anyone else in this country for any reason. Criminals have even sued property owners for injuries they suffered while trying to rob the place… and won. Chances are if it’s known that you have something to lose, someone may try to take it from you by filing a grievance, no matter how flimsy, and a sympathetic jury might just let it happen.
Oh cheer up. There are a few strategies to building wealth and getting to keep it, too:
- Stay under the radar. For pity’s sake, now is not the time to brag that you’re not among the majority living paycheck to paycheck. Blend in and keep the target off your back.
- Get an umbrella policy. Many liability insurance policies are pretty reasonable. If you have something to lose, check them out.
- Invest in assets with intrinsic value. A friend was marveling the other day that the sack of beans she bought just a year ago had gone up 60%. If she eats them, she’ll realize that gain without having to pay a penny in taxes on it. Other good investments might be learning a skill that will always be in high demand no matter what the economy is doing, making one’s home more energy-efficient. Nationwide, the only real estate sector rising in price is farm land.
- Figure out the loopholes. Tax law is full of them. An afternoon of a consultant’s time and expertise in these matters might just make the difference between laying off everyone and keeping a business alive after the death of the owner.
And keep your wealth under your control!
Elise Cooke cheerleads for savers. She’s the author of the Best Books USA award-winning The Miserly Mind, 12 1/2 Secrets of the Freakishly Frugal.