Thursday, January 13, 2011

Financial Vocabulary

The author of the Rich Dad, Poor Dad series, Robert Kiyosaki, states the importance of expanding your financial vocabulary on the journey to becoming rich. I tend to agree with him on this point, even though, ironically he misuses words like assets and liabilities (at least in a financial sense). An asset is a past event that has a future economic benefit, while a liability is an obligation arising from a past event. So to say that a home is a liability because it costs you money rather than making you money is incorrect.

A home contains many components that would end up in a financial statement. The mortgage is a liability, the home itself is an asset, any rental income received would be income, and maintenance would be considered an expense. Even if the home decreases in value and you spend money maintaining it, it is still an asset because it has a future economic benefit. Either you can borrow against the equity (home value less the mortgage) or you could sell the home.

That isn't to say that all assets are good investments though. I think that was the point Robert was actually trying to make. With the amount of interest spent, repair costs, etc, and if you're not planning on selling the home or using the equity for other investments, it may not be a very good investment after all.

Another term used in the financial world is an "investment vehicle". I like to use that term just because it drives my brother nuts! He insists that it is a bad term because it is clearly not a vehicle. No tires, no steering wheel, etc.

The Free Dictionary defines a vehicle as:
  • A medium through which something is transmitted, expressed, or accomplished: His novels are a vehicle for his political views.

So to me, the term investment vehicle makes perfect sense. It is a vehicle designed to accomplish your financial goals. You put your investments in your vehicle and hopefully move that vehicle closer to your financial freedom. I also like the term just for the analogies you can draw from it. Just like you wouldn't take a sports car the same places you'd take an all terrain vehicle, not all investments are used to accomplish the same goals.

A common misconception with the Tax-Free Savings Accounts (TFSA) is that they are just savings accounts. A TFSA is an investment vehicle, just like a Registered Retirement Savings Plan (RRSP) is. You can choose what investments you want to put inside that vehicle, including stocks, bonds, saving accounts, T-Bills, etc.

Any misues you'd like to share? Any other terms that bug or baffle you? Have I misused any? Love to know what you think.

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