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- Basic rule of investing #1: Adjust your money mindset
- Basic rule of investing #2: Know what kind of income you’re working for
- Basic rule of investing #3: Convert ordinary income into passive income
- Basic rule of investing #4: The investor is the asset or liability
- Basic rule of investing #5: Learn to evaluate risk and reward
- Basic rule of investing #6 Understand the Cashflow Quadrant
- So where do I disagree?
- Kiyosaki says your home is not an asset
- Your home as a stepping-stone
Robert Kiyosaki’s “Rich Dad, Poor Dad” series of financial books have changed the way many people think about money and investments.
In my early days learned a lot from Robert Kiyosaki, even though I’ve come to disagree with his real estate investment philosophies, which don’t really work in Australia.
I’ve quoted Robert on more than one occasion and hold him in high regard for his advocacy for financial literacy.
In fact recent Australian research showed that a quarter of young people don’t have a basic understanding of personal finances, and this will only get worse with Instagram and social media fuelling the “buy now, worry later” attitude.
I had the pleasure of interviewing Robert Kiyosaki recently for the Michael Yardney Podcast and it made me revisit some of his basic financial and investment concepts.
And I realised that I don’t necessarily agree with all of his theories on investment.
And there’s one in particular I find somewhat misleading, which is Robert’s suggestion that your home is a not an asset.
Now I agree with Kiyosaki that most people don’t know the difference between assets and liabilities.
First let’s look at some of Robert’s basic rules of investing, and then I’ll give you some thoughts of my thoughts on those I don’t agree with.
Basic rule of investing #1: Adjust your money mindset
Kiyosaki believes, and I agree, that one of the fundamental errors of the poor and middle class mindset is that they think you can get rich working for a salary.
He explains the poor and the middle class teach their children: “Go to school, get a good job, work hard, and save money. That will make you rich.”
Kiyosaki is right – it’s just too hard to become rich as an employee, paying tax on your earned income.
On the other hand, the rich teach their children: “Learn how money works, create good jobs, have money work hard for you, and invest in cash-flowing assets. That will make you rich.”
Basic rule of investing #2: Know what kind of income you’re working for
Kiyosaki explains there are three kinds of income:
- Ordinary earned income, from your job.
This is the highest-taxed income making it the hardest way to build wealth with.
And it’s really out of your control – if you want to earn more money, you have to either find a job or hope that your employer will decide to pay you more.
- Portfolio income:
Most Australians have this in the Superannuation and it’s usually managed by a financial advisor.
Much like earned income, you have little control over your portfolio income. You are at the mercy of the ups and downs of the stock market and the skill of your advisor.
- Passive income:
Kiyosaki teaches that financially literate investors have an investment strategy that aims to create passive income.
Passive income is generally derived from real estate or business distributions.
For example, I get royalties from my books.
In short, passive income is income that comes to you whether you are working or not.
It is the lowest-taxed income, with many tax benefits, and is the easiest income to build wealth with thanks to its combination of low taxes and potentially substantial returns.
Where I disagree with the cure psyche is that he defines an asset and something that brings in cash flow, while I regard capital growth as a form of income also.
Yes, I understand that I can’t eat my capital growth, but over the years as the value of my properties increase, they bring me income in a number of ways.
I can borrow against this increased equity and the cash flow from my property portfolio increases as the rents increase.
And I agree with that. However, I believe there is a step in between.
I believe you first have to build a substantial asset base, and then convert your asset base to cash flow.
Your assets could consist of properties, shares or owning a business.
In fact, they should probably consist of a combination of all of these to give you a level of diversification.
If you have a large Asset base you will have choices in life, no matter what happens to future bank lending practices or changes to the tax laws.
Basic rule of investing #3: Convert ordinary income into passive income
This is really saying stating the old principle of spending less than you earn, investing it saving it and then investing it into an asset class that will give you passive residual income.
Of course this involves delayed gratification, but that’s one of the common traits of successful people.
Basic rule of investing #4: The investor is the asset or liability
While many people think investing is risky, in reality the biggest risk is in the investor themselves.
Kiyosaki says if you want to move from being a risky investor to a good investor, first invest in your financial education.
He believes that the investor can either be an asset or a liability.
Have you noticed how in good times some investors seem to make money and others just never seem to get it right.
Similarly I’ve found that in difficult economic times, while many investors can’t seem to make money a small group consistently do.
This shows me that it’s not the external world that helps that small group of successful investors who can make money in any part of the cycle.
It’s something internal – it’s their mindset and their level of financial fluency.
In other words, your financial knowledge can either be an asset or a liability.
Basic rule of investing #5: Learn to evaluate risk and reward
As you become a successful investor, you must learn to evaluate risk and reward.
Many beginning investors don’t understand the risks inherent in chasing higher returns like the latest hotspot or speculative investments such as off the plan investments.
Basic rule of investing #6 Understand the Cashflow Quadrant
Kiyosaki explains that one of the main reasons the rich keep getting richer and the poor keep getting poorer is because most people don’t understand the power of his model – The CASHFLOW Quadrant, which represents the different methods by which income or money is generated.
He says there are two categories of people in the world, those who see the world through the left side of the CASHFLOW Quadrant and those who see it through the right side.
On the left-hand side of the quadrant are the E’s and S’s who pay the most in tax and trade time for money and each has a different mindset.
- E stands for employee – they look for security in their work job and can’t understand why anyone would want to take on the risk of being a business owner or investor
- S stands for self employed – yes people that make good employees and often believe that no one can do it better than them. They have a larger tolerance for risk and don’t mind working for themselves because they feel in control of their future. People in this quadrant often doctors lawyers dentists accountants and other service based businesses and consultants.
They only make money when they’re working which means they don’t really own a business, they had a job
On the right-hand side of the quadrant are the B’s and I’s who pay the least in tax and create or invest in assets to produce passive income and cash flow.
- B stands for Business Owner. I like those in the S quadrant, business owners don’t have a job, they own a system that makes money for them even when they aren’t working
- I stands for Investor. Kiyosaki says investors have the highest financial education of anyone in the CASHFLOW Quadrant. They are adept at finding assets that provide steady income in the form of cash flow and they often use other people’s money to attain those assets.
The message from this model is that different methods of income generation require different technical skills, different educational paths, different types of people and most importantly different mindsets.
Very simply, the path to the right side of the quadrant starts with thinking in terms of acquiring assets that produce passive income rather than living in a pattern of pay cheque to pay cheque.
So where do I disagree?
Kiyosaki has done a great job of making people aware of the importance of understanding how money works.
Don’t get me wrong; I think the subject of financial literacy is very important.
For years I’ve been trying to educate as many people as possible about property investment, personal finance, the psychology of success and even a little about economics.
But I’ve been concerned that he’s scared off many investors and led others astray with his various prophecies of Armageddon.
In 2002 he brought out his book Rich Dad’s Prophecy where he warned the biggest stock market crash in history is coming.
And since then has forecast 10 of the last two stock market downturns.
Of course I understand nobody is perfect, especially when it comes to market forecasting.
But in my recent interview with Robert for the Michael Yardney podcast I found there was no real substance behind the reasons why he felt the market would crash further and why we would experience a great depression other than a bunch of conspiracy theories.
But my biggest concern is that he has misled many Australian property investors, who try to use his Real Estate Investment strategies, that may work well in the United States, but don’t work in Australia.
You see… in Australia residential real estate is a high-growth relatively low yield investment.
In other words it is not a cash flow investment, yet many Australians who read Kiyosaki’s books try to buy cash flow positive properties here and then wonder why they don’t become rich like the books tell them they will.
My mind your investment decisions should be based on the potential for capital growth.
Which, of course, means that if you’re focusing on cash flow as the goal, you’re not doing it right.
Cash flow has a lot to do with it, but it’s not the end goal.
Sure cash flow is important, it keeps you in the game; but is capital growth that builds your asset base and gets you out of the rat race.
Kiyosaki says your home is not an asset
Robert is an ardent property investor – in fact he said he owns three homes and 8,000 rental properties.
So clearly, he knows a bit about real estate.
Well… that’s not accurate!
I should say clearly Kiyosaki knows a lot about property in the USA where the rules are very different, the tax regime is very different, the markets are very different and how you make money out of property investment is very different.
If I were to invest in property in the United States, I would invest for cash flow too.
Similarly, if I were to invest in real estate New Zealand, I would also invest for cash flow.
However, investing successfully in Australian real estate is very different to how to invest in overseas property and unfortunately many overseas gurus don’t “get it.”
And for years Robert Kiyosaki has said that your home is not an asset.
His argument for that is that there is no income coming in; only expenses going out and therefore your home is not an asset, but a liability.
Now if you accept his definition of an asset, something that brings in cash flow, then he is correct, but that’s not my definition of an asset and the common definition of an asset has nothing to do with cash flow.
The fact that Kiyosaki invests in gold and silver, suggests he believes they are an asset, however they don’t bring any cash in do they?
So why would he invest in them?
Imagine you $1 million in your bank account.
That would be an asset, even though it would hardly bring any interest or cash flow into your pocket .
And if you took that $1million out of the bank and put it under your mattress, that $1million would still remain an asset, even with no cash flow.
So I believe Kiyosaki’s basic assumption that your home is not an asset is flawed.
How I see it is that the way you get income from your properties in Australia is in 4 ways.
- Capital Growth
- Rental returns
- Tax benefits
- Accelerated/ manufactured growth.
Cash flow is just one of the forms of income the asset class of residential real estate yields.
In Australia you pay tax on the rental you receive, but not on the capital growth, which allows you to grow your wealth faster than those who pay tax on their income.
As I said, too many people look for cash flow from their residential real estate investments in Australia and that’s just not how it works.
In Australia residential real estate is a high-growth relatively low yield investment and to try and make it something different just tarnishes it and the results you achieve don’t allow you to build a big enough asset base to give you a cash machine in the future.
Your home as a stepping-stone
In this new age of property investment, when interest rates are accommodatingly low and mortgages so cheap, present day homeowners are actually sitting on a potential goldmine.
Far from being a drain on the household coffers, many of us are taking the opportunity to reduce our mortgages faster, contributing extra to our continually shrinking monthly repayments.
In turn, some property owners are building up equity at a considerable rate, with the help of the long term appreciation of well-located property.
Think about it for a moment… Your home is an asset with zero tax liability if you choose to sell it.
But better than that, it could represent the leaping off point to hasten your climb up the property ladder.
Take select pockets of the Melbourne, Sydney and Brisbane property markets for instance, where homeowners have enjoyed significant growth on their principal place of residence over the last few years without lifting a finger.
Some of them are leveraging the hundreds of thousands of dollar’s worth of equity they’re literally sitting on (or in) to invest in further high growth assets, while others are cashing in on a rapidly moving rental market and erecting granny flats in the backyard to create quick (and lucrative) accommodation.
Now more than ever, your home can and should be an integral part of your investment game plan.
Many homeowners are sitting on an investment goldmine beyond compare!
Now listen to my interview with Robert Kiyosaki here
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