The Capital Wealth Ratio

A rich man is nothing but a poor man with money.
— W. C. Fields

Today I’m going to introduce a cousin of the Wealth Ratio. I call it the “Capital Wealth Ratio.”

If you recall, the original wealth ratio is:

The Capital Wealth Ratio is the similar, with one key difference — it excludes any interest you might have paid. In other words, it is:


So why is this ratio so important?

How Much Went to Making You Richer?

Put simply, the Capital Wealth Ratio tells you exactly how much of your income went toward actually making you richer. After all, as far as your net worth is concerned, a dollar less in debt is just as good as a dollar more in savings, and often better, depending on interest rates.

A dollar paid in interest, on the other hand, might as well have disappeared into a black hole, as far as you’re concerned. That dollar went toward making your creditor richer, not you.

There are a few points that are worth noting here:

  • Use your after-tax income in the denominator. That’s what you actually brought home, after all.
  • Retirement savings count, but adjust for taxes if you used a tax-defered IRA or 401(k). (If you used a Roth, go ahead and count your contribution at 100%.)
  • Investments count as savings as well, but be careful about fudging what you call an “investment.” Factoring in things like money spent improving rental property can be iffy. You’ll have to use your judgment.
  • Investment gains count as income, but if you reinvest them, you can add them to both the numerator and the denominator. Don’t forget dividends!
  • If you took on any new debt, subtract the amount from your principal reduction. (Then punch yourself in the face.)

The original Wealth Ratio is somewhat aspirational — it shows you the savings potential you have locked up in the income you have now, so long as you’re able to fight off the temptations of lifestyle inflation once you get a little breathing room.

The Capital Wealth Ratio, by contrast, serves as a pretty good overall score card for how you actually did in a particular year. It represents what you paid yourself for all of your efforts.

5 Comments

  1. 42% for 2012… is that good? Never toyed with this ratio before… it’s an interesting one though. What was yours for 2012 Sean?

    • Sean Owen

      For 2012 my Capital Wealth Ratio was 63% (a LOT of that came from retiring student loan debt). Wealth Ratio was 73% – pretty close to my 75% goal.

      Not bad, but could have been better. We ate out too much and spent lavishly (by my standards) on our honeymoon. But it was our honeymoon, so what the heck.

      • Yeah we went a bit crazy for our wedding too. Our Wealth Ratio was 67%, just a bit shy of my 70% goal but we’re really kicking it into gear this year 🙂 Lots of positive changes coming online.

        I might try and set the goal to 75% actually, see how things go.

  2. Oskar

    Capital Wealth Ratio 67% for 2012 and aiming for the same in 2013, this will be challenging since my wife will be on maternity leave with lower income for about half of the year…..

    • Sean Owen

      67% is pretty damn good.

      I’d love to get to 75%, personally, but that’s going to be tough for as long as we carry a mortgage.

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