So what’s this talk of Assets and Liabilities you say? Are we going to get into a commerce class and discuss where each of these items go in your P&L (profit and loss)? Well not really. We will paraphrase and use some simplified versions of Assets and Liabilities for us to be able to better manage our finances.
So how do i define Assets vs Liabilities?
This is my interpretation of the concepts explained by Robert Kiyosaki in his book “Rich dad poor dad”.
- 1. An Asset is anything that generates money for us
- 2. A liability is anything that costs us money to own.
Let me explain with an example.
A Fixed deposit in the bank earns us interest income. Hence it generates money and is classified as an asset.
A loan that we take to buy something costs us interest income. Hence it costs us money and the loan per. Se can be looked at as a liability.
Now coming to a car. If you’re using the car to rent it out to someone and you’re earning a net income from the car its an asset. If you own the car for your own needs and are spending money on it every month, it becomes a liability.
So I hope my definition of assets and liabilities is clear.
Spending Vs Investing
Now let’s come to spending and investing
Investing is the act of buying more assets. Buying stuff that generates you money. Fixed deposits, National Savings Certificates, Shares in companies, Real estate that you can profitably rent out etc. etc.
Spending is the act of giving up your money to fund your liabilities. Fuel for your car for a joy ride, Fancy equipment for your house etc.
Now there are some things in life that we cannot live without and your need to pay for those things. While they remain liabilities, these are personal decisions that we take and fund but don’t make the mistake of classifying them as assets. For e.g we need a roof over our heads, so rent is an expense, so is electricity and any taxes you pay to your municipality those are expenses we pay for living in our house. Food is an expense that we need to pay for to live. Clothing might be an expense that we need to fund on occasion. So on and so forth you get the gist.
Dont confuse a liability for an asset !
Lets take a case that a lot of people mislabeling a liability as an asset.
As part of life we need to get around from point a to b. there are various ways in which we can do this. Public transport, cycle, ask for a lift, a scooter etc. A lot of people our age “invest” in a new car. We can analyse this “investment” in detail. The second you drive out the car from the showroom you lose money in depreciation. Then you have to fuel it anywhere you want to go. Add on costs for regular servicing /maintenance. Insurance Tyres etc. And when you want to sell it again you realise that even the most economical of cars that hold their value cost you money to have owned an enjoyed. Now don’t get me wrong. I love cars as much as the next person does, but that does not mean I classify it as an asset. It’s a complete money drain ( I promise to write an article about that in the future) and the bigger/ fancier/ more expensive the car you buy the bigger the hit.
So let us internalise today’s lesson.
Assets are things that earn you more money
Liabilities are things that keep costing you money to own.
Invest in buying more assets. Reduce your spending on or limit your spending on liabilities.
And if you do this smartly the poixe will keep rolling in.