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Build Credit
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A Beginner’s Guide to Securing Your Financial Future
WealthBuilding
Introduction: Building Wealth 1
Learn the Language 2
Budget to Save 4
Save and Invest 8
Build Credit and Control Debt 16
Protect Your Wealth 22
Review 26
Glossary 27
Wealth-Building Resource Guide 30
Tools for Building Wealth 33
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Building Wealth: A Beginner’s Guide to Securing Your Financial Future
oers introductory guidance to individuals and families seeking help
to develop a plan for building personal wealth. While a comprehensive
discussion of accounting, finance and investment options is beyond
the scope of this workbook, it presents an overview of personal
wealth-building strategies. For more information and assistance,
consult the resource guide at the back.
All Building Wealth materials are available at buildingwealth.org,
including an online guide, a tablet guide and classroom lesson plans.
For additional copies of this workbook (also available in Spanish),
order online at buildingwealth.org or call "##-$$$-%%&#.
Building Wealth: A Beginner’s Guide to Securing Your Financial Future
may be reproduced in whole or in part for training purposes, provided
it is not distributed for the purpose of private gain and is appropriately
credited to the Bank.
A new look for
Building Wealth!
We’ve updated the
characters and the
content to be relevant to
the financial choices we
face in today’s economy.
1Federal Reserve Bank of Dallas Building Wealth
You can create personal wealth. It’s possible to meet your financial
goals. By choosing to budget, save and invest, you can pay o debt,
send your child to college, buy a comfortable home, start a business,
save for retirement and put money away for a rainy day. Through
budgeting, saving and investing, building credit and controlling debt,
all these goals are within your reach.
Defining Wealth
Some people consider themselves wealthy because they live in a very
expensive house and travel around the world. Others believe they are
wealthy simply because they’re able to pay their bills on time. What we
are talking about here is financial wealth and what it means to you.
Building wealth requires having the right information, planning and
making good choices. This workbook provides basic information and
a systematic approach to building wealth. It is based on time-honored
principles you probably have heard many times before—budget to save;
save and invest; build credit and control debt; and protect the wealth
you accumulate.
Some people might define wealth as:
being able to put my kids through college.
having enough money to buy a house.
You have defined wealth.
How do you acquire it?
1.
2.
3.
What is your definition of wealth?
A Beginner’s Guide to Securing Your Financial Future
WealthBuilding
Building Wealth Federal Reserve Bank of Dallas2 Building Wealth Federal Reserve Bank of Dallas
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You want to create personal wealth, right? So does Anthony.
Anthony is 35 and works for a manufacturing company. He looked at
his finances and realized that at the rate he was going, there wouldn’t
be enough money to meet his family’s financial goals. So he chose to
embark on a personal wealth-creation strategy. His first major step
was to pick up a copy of this workbook for guidance. Anthony began
by learning the language of wealth creation. The first lesson was to
understand the meaning of assets, liabilities and net worth. They make
up this very important formula:
ASSETS ! LIABILITIES " NET WORTH
A wealth-creating asset is a possession that generally increases in
value or provides a return, such as:
A savings account.
A retirement plan.
Stocks and bonds.
A house.
Some possessions (like your car, household furnishings and clothes)
are assets, but they aren’t wealth-creating assets because they don’t
earn money or rise in value. A new car drops in value the second it’s
driven o the lot. Your car is a tool that takes you to work, but it’s not a
wealth-creating asset.
A liability, also called debt, is money you owe, such as:
A home mortgage.
Credit card balances.
A car loan.
Hospital and other medical bills.
Student loans.
If you make a good income
each year and spend it all,
you are not getting wealthier.
You are just living high.
Thomas J. Stanley and William D. Danko,
The Millionaire Next Door
Learn the Language
Home Equity
The market value of a home is an asset; the mortgage is a liability. Let’s say
your house is worth $120,000, but your mortgage is $80,000. That means your
equity in the home is $40,000. Equity contributes to your net worth.
!
3Federal Reserve Bank of Dallas Building WealthFederal Reserve Bank of Dallas Building Wealth
ASSETS
#MINUS$
LIABILITIES
#EQUALS$
NET WORTH
Anthony’s Balance Sheet
Wealth-building assets Amount
Cash $ 1,500
Savings account 1,000
Stocks, bonds and other investments 5,000
401(k) retirement plan/IRA 25,000
Market value of home 0
Other assets
Market value of car 14,000
Total assets $ 46,500
Liabilities Amount
Home mortgage $ 0
Home equity loan 0
Car loan balance 13,000
Credit card balances 3,000
Student loan 5,000
Miscellaneous liabilities 1,500
Total liabilities $ 22,500
Net worth $ 24,000
Net worth is the dierence between your assets (what you own) and
your liabilities (what you owe). Your net worth is your wealth.
To calculate how much he is worth, Anthony used the following
formula: Assets – Liabilities = Net Worth. He made a balance sheet
listing all his assets and all his liabilities. He listed his wealth-building
assets first.
Anthony discovered his net worth is $24,000.
Remember that net worth is your wealth.
Are you where you want to be?
Balance Due
Account
Statement
Invoice
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123 Figure Your Net Worth
Using Anthony’s balance sheet as an example, complete the
blank balance sheet on page 33. Be sure to add any assets or
liabilities you have that are not listed on Anthony’s sheet.
Building Wealth Federal Reserve Bank of Dallas4 Building Wealth Federal Reserve Bank of Dallas
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You have set short- and long-term goals.
How do you meet them?
Set Financial Goals
Most people who have built wealth didn’t do so overnight. They got
wealthy by setting goals and pushing themselves to reach them.
Anthony set two short-term goals: (1) to save $3,000 a year for three
years to have $9,000 for a down payment on a house, and (2) to add
$500 to his emergency fund in one year. Anthony also set two long-
term goals: (1) to save and invest enough to have $25,000 in 15 years
for his children’s college education, and (2) to have $5,000 a month to
live on when he retires in 30 years.
5 years from now? $
10 years from now? $
My short-term goals are:
1.
2.
3.
My long-term goals are:
1.
2.
3.
Budget to Save
It takes as much energy
to wish as it does to plan.
Eleanor Roosevelt
What would you like your net worth to be?
What are your short-term and long-term goals?
Tip: Financial Goals
A personal wealth-creation strategy is based on specific goals.
In preparing your goals:
Be realistic.
Establish time frames.
Devise a plan.
Be flexible; goals can change.
"
5Federal Reserve Bank of Dallas Building WealthFederal Reserve Bank of Dallas Building Wealth
Develop a Budget and Live by It
When it comes to reaching your financial goals, are you
doing or wishing? The dierence is doers put action to
their goals. And doers are much more likely to reach
their goals and achieve their dreams.
If you are a doer, you are more likely to:
Track spending.
Live within your means.
Stick to a budget.
Pay o credit cards in a timely way.
Deposit money into savings each month.
Make regular contributions to retirement savings.
To maximize your wealth-creating ability, you want to
be a doer, like Sonya.
Sonya is a single parent with one child. She budgets in
order to live on her modest income and tracks where
every dime goes. Saving is very important to her. When
her son was born, she started investing every month
in a mutual fund for his college education. Sonya is a
homeowner, has good credit and never loses sleep over
paying her bills. Sonya controls her future.
Gabby, by contrast, doesn’t put action to her dreams.
Gabby has a good job, makes good money and lives a
pretty comfortable life, but her bank statement tells
a dierent story. She has no savings or investments,
owns no property and has no plans for retirement. Plus,
she’s got a lot of credit card debt, lives from paycheck
to paycheck and doesn’t budget.
You can choose to be like Gabby, or you can follow
Sonya’s road to wealth creation by learning to budget
and save.
A budget allows you to:
Understand where your money goes.
Avoid overspending.
Find money for saving and investing to build your
wealth.
To develop a budget, you need to:
Calculate your monthly income.
Track your daily expenses.
Determine how much you spend on monthly bills.
6 Building Wealth Federal Reserve Bank of Dallas
Gabby’s Day-to-Day Spending
Date Expense Cash/debit/check Charge
1/2 Breakfast, Get-N-Go $ 5.50
1/2 Coffee 3.75
1/2 Lunch $ 6.75
1/2 Gas for car 46.00
1/2 Drinks with friends 10.00
1/2 Groceries 50.00
1/2 Dinner 15.00
1/2 Music 10.00
1/3 Breakfast, Moonlight Diner 8.50
1/3 Coffee 3.75
1/3 Dress 50.00
1/3 Movies 15.00
1/3 Dinner 18.00
1/4 Breakfast, Get-N-Go 5.50
1/4 Coffee 3.75
1/4 Birthday present 20.00
1/4 Lunch 15.00
1/4 Household supplies 30.00
1/4 Coffee 3.75
1/4 Pizza 15.00
Track Day-to-Day Spending
One day, Gabby realized that to create wealth
she had to become more of a doer, like Sonya,
and plan her financial future. To start, Gabby
looked at her finances to see how much money
she made and how she was spending it. She set
a goal to save $125 a month to put toward her
wealth-creation goals. First, she calculated her
income. Then she added up her monthly bills.
She also kept track of her daily spending,
whether by cash or debit card, check or credit
card. Here is a page from her notebook.
You know how to track where your money is going.
Do you need to make a change?
123 Track Your Daily Spending
Using Gabby’s spending log as an example, record your daily
expenses on the blank day-to-day spending form on page 34.
Include everything you purchase—whether with cash, debit card,
check or credit card.
7Federal Reserve Bank of Dallas Building Wealth
Gabby’s Monthly Budget
Current
income
Income
changes
New
budget
Take-home pay $ 2,600 $ 2,600
Overtime pay $ 40 $ 40
Pension, Social Security benefits
Alimony/child support
Other income
Total income $ 2,600 $ 40 $ 2,640
Current
expenses
Spending
changes
New
budget
Rent $ 750 $ 750
Renter’s insurance 30 30
Utilities 155 155
Telephone 100 100
Cable TV/Internet service 75 $ –20 55
Insurance (life, disability) 0 0
Charitable donations 0 0
Credit card payment 200 200
Groceries 200 200
Clothing 130 –30 100
Day care/tuition 0 0
Car loan 300 300
Car insurance 75 75
Gas for car 145 –20 125
Meals out & entertainment 425 –50 375
Miscellaneous daily expenses 100 –50 50
Total expenses $ 2,685 $ –170 $ 2,515
Monthly net (income – expenses) $ –85 $ 125
Available to save or invest $ 0 $ 125
Get a Handle on Income and Expenses
Gabby used the information from tracking her
day-to-day expenses to develop a monthly
budget. When Gabby reviewed her budget,
she realized she was spending more than she
earned. This means she was building debt, not
wealth. Gabby knew if she were ever going to
save $125 a month, she had to cut her expenses,
earn more money, or both. She worked overtime
at her company, which increased her take-home
pay. She bought fewer clothes, discontinued
premium cable TV channels, carpooled to
work to cut gas consumption and reduced her
spending on eating out and entertainment.
Tracking her expenses paid o. Gabby success-
fully developed a budget that enables her to
save $125 each month.
Here is her budget. If Gabby sticks to it, she will
have $125 a month that she can:
Put in a savings account.
Invest in a 401(k) retirement plan at work.
Invest in an individual retirement account
(IRA).
Invest in stocks, bonds or mutual funds.
Use to pay o debt.
These are just some of the wealth-building
choices available when you budget to save.
You know how to successfully budget to save.
How will you invest your savings?
Tip: Saving
To help you maintain the discipline to save:
Save every month.
Have savings automatically deducted from your
paycheck or checking account.
Base your budget on what’s left.
In other words, get on automatic pilot and stay there.
123 Budget to Save
Using Gabby’s budget as an example, track your income and
expenses on the blank monthly budget sheet on page 35. Identify
changes you can make to increase your income or decrease
your expenses. Then develop a new budget that includes more
savings. Be sure to make changes that you can live with from
month to month.
Building Wealth Federal Reserve Bank of Dallas8 Building Wealth Federal Reserve Bank of Dallas
The Compound Interest Advantage
0
50,000
100,000
150,000
200,000
$250,000
No interest
8 percent
6 percent
3 percent
302520151051
Years
Value of savings
Examples assume $125 monthly deposits; the compound
interest examples assume monthly compounding.
You have budgeted and identified an amount to save monthly. Where are
you going to put your savings? By investing, you put the money you save
to work making more money and increasing your wealth. An investment
is anything you acquire for future income or benefit. Investments
increase by generating income (interest or dividends) or by growing
(appreciating) in value. Income earned from your investments and any
appreciation in the value of your investments increase your wealth.
Get Guidance
There is an art to choosing ways to invest your savings. Good invest-
ments will make money; bad investments will cost money. Do your
homework. Gather as much information as you can. Seek advice from
licensed or registered advisers. States require licensing or registration for
brokers, investment advisers and insurance salespeople, so check with
your state securities regulator before trusting any investment adviser.
Also, check out the Wealth-Building Resource Guide on page 30 for
helpful sites.
Take Advantage of Compound Interest
Compound interest helps you build wealth faster. Interest is
paid on previously earned interest as well as on the original
deposit or investment. For example, a $5,000 investment
earning 6 percent interest for a year earns $308 if the interest
is compounded monthly. In just five years, the $5,000 will
grow to $6,744.
Let’s see how interest compounds on Gabby’s savings.
Assume that Gabby saves $125 a month for 30 years and the
interest on her savings is compounded monthly.
The chart to the left shows how compound interest at
various rates would increase Gabby’s savings compared with
simply putting the money in a shoebox. This is compound
interest that you earn. And as you can see from Gabby’s
investment, compounding has a greater eect after the
investment and interest have increased over a longer period.
There is a flip side to compound interest. That is compound
interest you are charged. This compound interest is charged
for purchases on your credit card. Chapter 4, “Build Credit
and Control Debt,” discusses this type of interest.
Take the power of compound
interest seriously—
and then save.
Dwight R. Lee and Richard B. McKenzie,
Getting Rich in America
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Save and Invest#
9Federal Reserve Bank of Dallas Building WealthFederal Reserve Bank of Dallas Building Wealth
STOCK
$
$
$
$
$
$
$
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The Investment Pyramid: How Much Risk Do You Want to Take?
$
$
$
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BOND
STOCK
Increasing Risk Decreasing Risk
Financial Plan
Goals
Budget
Financial
Records
Net Worth
Life
Disability
Health
Property and
Liability
Insurance
Money that might be needed within the next three
years or that must be easily accessed
Money that won’t be needed
for three to five years
Five years or
longer
High
Stakes
Long-Term Hold
Medium-Term Hold
Short-Term Hold
Financial Foundation
NOTE: Information not intended as specific individual investment advice.
SOURCES: Adapted from National Institute for Consumer Education,
Eastern Michigan University; AIG VALIC.
Understand the Risk–Return Relationship
When you are saving and investing, the amount of expected
return is based on the amount of risk you take with your money.
Generally, the higher the expected return, the higher the risk of
losing money. For less risk, an investor will expect a smaller return.
For example, a savings account at a financial institution is fully
insured by the Federal Deposit Insurance Corp. up to $250,000.
The return—or interest paid on your savings—will generally be
less than the expected return on other types of investments.
On the other hand, an investment in a stock is not insured.
The money you invest may be lost or the value reduced if the
investment doesn’t perform as expected.
After deciding how much risk you are able to take, you can
use the investment pyramid to help balance your savings and
investments. You should move up the pyramid only after you
have built a strong foundation.
Here are some things to think about when determining the amount of
risk that best suits you.
Financial goals. How much money do you want to accumulate
over a certain period of time? Your investment decisions
should reflect your wealth-creation goals.
Time horizon. How long can you leave your money
invested? If you will need your money in one year,
you may want to take less risk than you would if you
won’t need your money for 20 years.
Financial risk tolerance. Are you in a financial
position to invest in riskier alternatives? You
should take less risk if you cannot aord to
lose your investment or have its value fall.
Inflation risk. This reflects savings’ and
investments’ sensitivity to the inflation rate.
For example, while some investments such
as a savings account have no risk of default,
there is the risk that inflation will rise above
the interest rate on the account. If the
account earns 5 percent interest, inflation
must remain lower than 5 percent a year for
you to realize a profit.
10 Building Wealth Federal Reserve Bank of Dallas
Tools for Saving
A good first step toward saving is to open a savings
account at a bank or credit union. With a savings
account, you can:
Take advantage of compound interest, with no risk.
Keep your money safer than in your pocket or at
home.
Take advantage of direct deposit of your paycheck.
Monitor your balance online.
Financial institutions oer a variety of insured savings
accounts, each of which pays a dierent interest rate.
Among them are:
General savings accounts, which earn interest and
allow access to funds at any time and movement of
money from account to account.
Money market accounts, which earn interest, may
oer check-writing services and impose no fees
with a minimum balance.
Certificates of deposit (CDs), which are purchased
for a specified term and return principal and
interest at the end of the term (early withdrawal
penalties apply).
Tools for Investing
Once you have a good savings foundation, you may
want to diversify your assets among dierent types
of investments. Diversification can help smooth out
potential ups and downs of your investment returns.
Investing is not a get-rich-quick scheme. Smart
investors take a long-term view, putting money into
investments regularly and keeping it invested for five,
10, 15, 20 or more years.
Bonds—Lending Your Money
When you buy bonds, you are lending money to a
federal or state agency, municipality or other issuer,
such as a corporation. A bond is like an IOU. The
issuer promises to pay a stated rate of interest during
the life of the bond and repay the entire face value
when the bond comes due or reaches maturity. The
interest a bond pays is based primarily on the credit
quality of the issuer and current interest rates. Firms
like Moody’s Investor Service and Standard & Poor’s
rate bonds. With corporate bonds, the company’s
bond rating is based on its financial picture. The rating
for municipal bonds is based on the creditworthiness
of the governmental or other public entity that issues
it. Issuers with the greatest likelihood of paying back
the money have the highest ratings, and their bonds
will pay an investor a lower interest rate. Remember,
the lower the risk, the lower the expected return.
A bond may be sold at face value (called par) or at a
premium or discount. For example, when prevailing
interest rates are lower than the bond’s stated rate,
the selling price of the bond rises above its face value.
It is sold at a premium. Conversely, when prevailing
interest rates are higher than the bond’s stated rate,
the selling price of the bond is discounted below face
value. When bonds are purchased, they may be held to
maturity or traded.
Savings bonds. U.S. savings bonds are government-
issued and government-backed. Unlike other invest-
ments, you can’t get back less than you put in. Savings
bonds can be purchased in denominations ranging
from $50 to $10,000. There are dierent types of
savings bonds, each with slightly dierent features and
advantages. Series I bonds are indexed for inflation.
The earnings rate on this type of bond combines a
fixed rate of return with the annualized rate of inflation.
If you have paper U.S. savings bonds, you can register
them online at TreasuryDirect, www.treasurydirect.gov.
Then, you won’t have to worry about losing the paper copy.
Treasury bills, bonds, notes and TIPS. The bonds the
U.S. Treasury issues are sold to pay for an array of gov-
ernment activities and are backed by the full faith and
credit of the federal government. Treasury bills are
short-term securities with maturities of three months,
six months or one year. They are sold at a discount
from their face value, and the dierence between the
cost and what you are paid at maturity is the interest
you earn. Treasury bonds are securities with terms
of more than 10 years. Interest is paid semiannually.
11Federal Reserve Bank of Dallas Building Wealth
i
Treasury notes are interest-bearing securities with ma-
turities ranging from two to 10 years. Interest payments
are made every six months. Treasury Inflation-Pro-
tected Securities (TIPS) oer investors a chance to
buy a security that keeps pace with inflation. Interest is
paid on the inflation-adjusted principal.
Bills, bonds and notes are sold in increments of $1,000.
These securities, along with U.S. savings bonds, can be
purchased directly from the Treasury through Treasury-
Direct at www.treasurydirect.gov.
Some government-issued bonds oer special tax advan-
tages. There is no state or local income tax on the interest
earned from Treasury and savings bonds. And in most
cases, interest earned from municipal bonds is exempt
from federal and state income tax. Typically, higher-
income investors buy these bonds for their tax benefits.
Stocks—Owning Part of a Company
When you buy common stock, you become a part
owner of the company and are known as a stockholder,
or shareholder. Stockholders can make money in two
ways—receiving dividend payments and selling stock that
has appreciated. A dividend is an income distribution by
a corporation to its shareholders, usually made quarterly.
Stock appreciation is an increase in the value of stock in
the company, generally based on its ability to make mon-
ey and pay a dividend. However, if the company doesn’t
perform as expected, the stock’s value may go down.
There is no guarantee you will make money as a stock-
holder. In purchasing shares of stock, you take a risk on
the company making a profit and paying a dividend or
seeing the value of its stock go up. Before investing in
a company, learn about its past financial performance,
management, products and how the stock has been
valued in the past. Learn what the experts say about the
company and the relationship of its financial performance
and stock price. Successful investors are well informed.
Mutual Funds—Investing in Many Companies
Mutual funds are established to invest many people’s
money in many firms. When you buy mutual fund
shares, you become a shareholder of a fund that has
invested in many other companies. By diversifying, a
mutual fund spreads risk across numerous companies
rather than relying on just one to perform well. Mutual
funds have varying degrees of risk. They also have costs
associated with owning them, such as management
fees, that will vary depending on the type of investments
the fund makes.
Before investing in a mutual fund, learn about its past
performance, the companies it invests in, how it is
managed and the fees investors are charged. Learn what
the experts say about the fund and its competitors.
Stocks, bonds and mutual funds can be purchased
through a full-service broker if you need investment
advice, from a discount broker or even directly from
some companies and mutual funds.
Invest for Retirement
Have you ever thought about how much money you will
need when you retire? Will you save enough today to meet
your future needs at prices higher than today’s due to
inflation? Many people don’t save enough for retirement.
Rule of 72
The Rule of 72 can help you estimate how your investment
will grow over time. Simply divide the number 72 by
your investment’s expected rate of return to find out
approximately how many years it will take for your
investment to double in value.
Example: Invest $5,000 today at 8 percent interest. Divide
72 by 8 and you get 9. Your investment will double every
nine years. In nine years, your $5,000 investment will be
worth about $10,000, in 18 years about $20,000 and in 27
years, $40,000.
The Rule of 72 also works if you want to find out the rate of
return you need to make your money double. For example,
if you have some money to invest and you want it to double
in 10 years, what rate of return would you need? Divide 72
by 10 and you get 7.2. Your money will double in 10 years if
your average rate of return is 7.2 percent.