5 Tips for Passing on Generational Wealth

In the summer of 2010, I asked myself a question that would change how I viewed my finances and my future. I had just completed my first internship in New York City with ING Investment Management. Prior to the job, I had no idea how the stock market worked, why it was important, or the amount of wealth it could generate. On the second to last day, I sat at my desk and asked: 

“How much money would I have today, if my parents had invested in Apple?” 

With a few curious clicks, I found that just $1,000 every year from 1989 to 2010 would have left me with approximately $814,000! That’s more than enough to pay my student loans off 25 times and still have money left over for a down payment for a house. I learned about generational wealth by looking at the opportunities I had missed out on.

What is Generational Wealth?

By definition, generational wealth is the financial assets passed down and accumulated by the previous generation. To use sports as a metaphor it is like starting the game in the third quarter with a lead instead of starting off at zero. 

The importance of generational wealth is easy to understand if you’re familiar with the concept of compounding interest. Albert Einstein once said, “Compound interest is the most powerful force in the universe.” He also called it the, “greatest mathematical discovery of all time.” To put it simply, compounding interest occurs when the money you’ve earned makes more money. 

For example, if I invest $10 and make 10% per year, I have earned $1. In year two, I have $11 and invest the money again, now I’ve earned $1.10. The $1 I made in the first year has already made me an extra $0.10. As time progresses that interest continues to grow and compound. 

Generational wealth allows you to take the concept of compounding interest and expand it by doing two things. First, it allows you to begin with a higher amount to invest. Second, it allows the money to grow even longer. Generally, most people invest for 30 to 35 years before needing to use the money for retirement. If you inherit money that’s already been growing for 30 years you now have the ability to allow it to grow for another three decades giving you 60 years or more of compounding.  

To illustrate this, let’s go back to 1989 and the example with Apple. As mentioned, if my parents started the year I was born I would have had $814,000 in 2010 (we will call this Scenario 1). For me, that would have been a 21-year head start. If I had taken that amount and continued to invest the $1,000 per year, in 2020 I would have close to $6.2 million today. However, without that headstart, I would only have about $48,000 today (Scenario 2). 

In this situation, instead of starting on my own with nothing, I would have been able to start with 21 years of compounding interest. Scenario 1 I would have made me a millionaire well before the age of 30. I wouldn’t even have $50,000 in Scenario 2. 

So what are some things you can do to create generational wealth? Here are 5 tips: 

Communicate and Educate

About 70% of wealth is lost by the second generation, that figure increases to 90% for the third generation. One of the reasons this happens is a lack of communication on how to manage and preserve wealth. Generational wealth can also be diluted as the family grows. This is why it is critical to discuss your finances, but not even wealthy families do a good job of this. 

According to Merrill Private Wealth Management, two-thirds of Americans who have $3 million or more have not talked to their children about their inheritance or never will. But avoiding “The Talk” regardless of how much money you have is not the best strategy. Like most life lessons it is best to discuss the purpose, goal, and meaning for the things you’ve planned early and often. For those who inherit, it frames the money they could receive as more of a garden to continue to grow and nurture instead of a sudden lottery ticket.  

Start investing…now!

As illustrated earlier, the sooner you can begin investing the more opportunities you have for the money to compound. There are two primary ways you can do this. First, you can invest for yourself through accounts like a Roth IRA or 401(k). As you build your wealth over time you can leave a portion behind to pass to the next generation (more on this in #3). 

If you have children, you can open a custodial account and invest for them directly. When they turn 18 (21 in some states) the assets will become theirs and they can continue to invest and increase their wealth.  

Update the beneficiaries on all of your accounts

For every account that you own, make sure that you’ve included an updated list of beneficiaries. Doing so will ensure that the funds are transferred quickly and efficiently to the people (or organizations) of your choice. Having an outdated beneficiary listed on an account can be a source of conflict. 

For example: If you are divorced and remarry, make sure that the new spouse is added as the beneficiary. If you have a new child, make sure they are added. If not, the funds will be automatically transferred to the previous person listed. Anytime there is a change in the family such as a death, birth, adoption, divorce, or marriage you may want to consider making changes. 

Consider life insurance

Obtaining life insurance is considered one of the most straightforward options to create generational wealth. About 60% of Americans were covered by some form of life insurance according to the Life Insurance Institute in 2018. Life insurance can be used to pass on a lump sum amount that the beneficiaries could then carry forward and invest. Or it can be used to cover a specific need like covering the lost income of a spouse or the remaining amount on a mortgage.  

Create a will

Working with an attorney to create a will on its own will not create wealth but it can help your loved ones manage and preserve the wealth you’ve accumulated. Essentially a will is a legal document that expresses how a person’s assets should be dispersed. It is important to note however that beneficiaries listed on your accounts will normally supersede a will. Having a will can give your family specific instructions for what to do with your assets and who will receive them, taking the guesswork out of the process. 

Building generational wealth isn’t something that is going to happen overnight. However, with small, consistent steps over time, the moves you make today can help propel generations for decades to come.