There is always confusion about what is an asset and what is a liability. Everyone who wants to be financially Independent will always think of investing or buying assets and reducing their liabilities. Even I had these questions and began researching about what is a real asset and what is termed as a real liability then I have found answers to my questions in one book written by Robert T. Kiyosaki named
Rich Dad Poor Dad
The author narrates the way he was groomed by his fathers (Rich Dad and Poor Dad) & of how diverse the attitudes of the Rich and Poor will be in grooming in their children. I will quote some examples from the book.
- In terms of Career – Poor Dad says, ” Work hard & study well so that you can find a good company to work for” while Rich Dad, ” Work hard & study well so that you can find a good company to buy“
- In terms of money – Poor Dad says, “ Play it safe, Don’t take risk” while other says, “ Learn to Manage Risk”
- In terms of Rich – Poor Dad says, “ I couldn’t be RICH because I have you kids” while the other one says, “ I have to be rich because I have you kids“
- In terms of Dreams – Poor dad says, ” I can’t afford it. ” while Rich one says, “ How can I afford it ?” (This one is my favorite)
- Poor dad’s comment was a statement while other one’s was a question. Statement will stop there it self (ending with a dot) while question makes you think how you can possibly achieve the dream which you are dreaming.
I recommend you to read this book even if you want to step into business of your own or not because it is wonderful book narrating the way money works, how money makes us work for it ? & How can we make it work us instead of we working for it ?This is a wonderful book – Rich Dad Poor Dad.
Why should you invest instead of saving money ?
Investing money in asset is the best way to save the money
Read : 12+ ways to Save money
An asset is defined as a property or a thing which puts money into our pocket.
So, anything that puts money in our pocket is an Asset ? NO (may be or may not be) because most of the times we invest in some assets and later find out that either our investment has gone flat means No profit No loss or the investment was on a liability as it is eating up the investor without mercy, Why does investment on assets are not always fruitful ?
In terms of business there are two terms to estimate the profit of the organization they are
- Gross Profit – The total income generated by the investment.
- Net Profit – The total income (profit) obtained after deducting the expenses incurred due to that investment including the initial investment.
So, most of the investors take a wrong step here only, they will invest in a particular asset (income generating source) keeping in mind the Gross profit but will not care much about the net profit. And it is the most and the only important because the extra income generated by our investment is net profit only not gross profit.
Let me explain you with a small example, if you buy a car in second hand (used car) @ 100,000 /- (as amount should be easy to compute) for renting it to a taxi driver so that you can get your passive income through rent but after checking the vehicle you have realized that it needs a bit of repair for renting it to some one & you have spent an extra 20,000 /-. You have rented the car for 10,000/month (hoping that you will get your investment back in 12 months & the rest is profit) but every month the taxi driver comes back with repair bills as it was a used car and reduces the rent amount say 1000 per month
And at the end of year the car gets depreciated due to the usage and the rent value decreases to 7500/month and repairs increase to 1500 – 2000/month. Now let’s see how much gross profit and Net profit you have earned year by year
|Year||Gross Profit / Year||Net Profit (Total)||Rent / Month||Repair / Month|
Say, if you have bought the initial investment on a credit then there would be an additional interest. By, the above statistics it is taking more than an year to get the initial investment back.So, by analysis it is clear that there is a reasonable difference between Gross Profit and Net profit. Hence, an investment into an asset has to be done very carefully & with proper awareness of how cash is flowing into & out of the asset to avoid bitter consequences.
A Liability is defined as a property or a thing which takes money out of our pocket.
Sometimes we tend to invest in luxuries just for status sake in the society but these status symbols Eat us away literally. Like if you buy a brand new luxury Car or Home :
1. It is very expensive to buy those.
2. It is very expensive to maintain them.
3. It is expensive to buy all the other utilities or accessories to match them.
4. It is easy to get loan for buying those expensive things.
5. It is dead easy to get into trouble with those expensive items.
Wooof.. everything is very expensive with luxurious items then what should be done ? just look at those luxurious items and be happy & don’t own them any time – just see & enjoy, is that what I am telling you now ? NO. You should be aware of the luxurious item’s price and value to you before buying that. Say, for example you need a car to travel from office to home everyday so that he can easily compensate his time and money while travelling through public transport and you need a very good car for that. What are the requirements & which automobile can match you ?
Requirement – Solution
- Car needs to travel long distance – Good mileage is needed
- Car has to be stylish & comfortable – Good design and proper ergonomics based car is needed
- Car should be able to accommodate whole family – A big car is needed
If you have noticed the above requirements of the car they are a bit self contradicting, if you are buying a car to travel office alone everyday then how can fit your whole family in that ? So, you can buy the car starting from 4,00,000 to 4,00,00,000 so which one you would choose ? based on your decision lies whether you are investing in liability or not.
- If you buy a normal car with specifications
- More mileage
- 4 seater
- OK looks (not extra-ordinary looking)
- If you buy a high end car for same purpose just for status in the society like
- Or High end automobile from any manufacturer
In the second way of investment you might run into problems as high end cars don’t serve the purpose of daily as their usage & maintenance both are expensive. So, think well before investing & stay Happy, Tension – free.
By investing in or buying those expensive items we add liability instead of value to us and most of them think them as Assets and there lies the Trap.
As Rich Dad says
Rich enjoy the luxuries at the last
Poor and middle class buy luxuries first and are accompanied by EMI s & problems till the end of their lives.
If you use the rich dad’s method for our above car example, then initially you can buy a normal car but once due to the use of car you can reach your destination on time, relaxed, comfortably which helps you in completing your work effectively and will add up more value to you & boost your earning. Once you are earning more & more then you can go ahead buy the car you have once dreamed of this is termed as Delayed Gratification i.e., delaying our gratification so that we can enjoy it later happily instead of enjoying it now and repenting later.
Hope you have enjoyed the discussion on Assets & Liabilities. Don’t forget to share this post if you have liked it & if you have any views or queries regarding Assets & Liabilities, please share them through comments. I would be very happy to hear them & answer them.
Bye…. take care…