Thanks for reading The Tailwind Effect! This is the number one most profitable habit you could ever learn and do in your lifetime and is one of the oldest tricks in the book.
If you are working as a professional or are a fellow entrepreneur making a good living, chances are you’ve done your research so you can have more control over your finances and ultimately have more time for the things you value most in life — and yet you’re still looking!
That’s because reality doesn’t always turn out the way it looks on financial spreadsheets and charts. Part of what makes up this reality is risks that are out of our control (you can read more on these risks here), while the other part is the process in which you use your money daily.
According to the OECD’s data on household debt, the average Canadian is spending $1.81 for every dollar they earn in 2018.1 There appears to be a disconnect between where people want to go and the steps they are taking to get there and this is where the Tailwind Effect comes into place.
The Tailwind Effect isn’t about cutting costs and paying down debt. It’s about controlling your financial environment and creating a perpetual tailwind for everything you do in the financial world. It’s about paying yourself first and it’s also about paying yourself interest. Let me explain.
The Headwind Effect
Financially speaking, you can have a headwind, a no-wind, or a tailwind effect.
The headwind effect is exactly what’s happening in the homes of many Canadians today due to the presence of bank-owned debt. Where a financially unsavvy individual is saving 10% of their after-tax income and is financing their vehicles, mortgaging their home, and crediting their living expense through a financing company with the rest, it is difficult – if not impossible – to get ahead.
That’s because it’s the volume of interest, and not the interest rate itself, that matters.2
For most of us, vehicles, homes, and living expenses are non-negotiable. That’s a no-brainer. However, if the amount being paid out in interest for these expenses is higher than the amount paid into savings, then you are in a headwind.
Even if our unsavvy individual can get a high rate of return on the 10% they are saving to help make up the difference, it doesn’t matter. No matter what way we look at this scenario, they are still losing money unnecessarily.
The No-Wind Effect
The no-wind effect is a nice reprieve from the headwind. Where a now financially savvy individual is saving 10% of their after-tax income and paying for their vehicle, homes, and other living expenses with cash, it is now possible to start getting ahead.
Life seems pretty great in the no-wind scenario. There is no interest that our savvy individual must pay for expenses, their 10% savings is earning a decent rate of return, they’ve checked off all the boxes and are doing all the right things for their financial plan.
There is, however, this little thing called Economic Value Added. A well-known idea in the business world, the essential premise of EVA is that all money costs money. More specifically for our purposes is that your money costs money and if you’re not investing it, then you’re losing the opportunity to earn interest.
This is the opportunity cost associated with spending money and no matter what way we look at this scenario, our savvy individual is still losing money, possibly unknowingly.
That’s because you finance everything you buy — you either pay interest to someone else or you give up interest you could have otherwise earned.3
The Tailwind Effect
Again, the Tailwind Effect isn’t about cutting costs and paying down debt. It’s about controlling your financial environment and creating a perpetual tailwind for everything you do in the financial world. It’s about paying yourself first and it’s also about paying yourself interest.
Where our once unsavvy individual was losing money unnecessarily by paying out interest, our savvy individual was still losing money perhaps unknowingly by paying out an opportunity cost. A financially wise individual, however, understands the process in which they use their money is important and they don’t want to lose any money, unnecessarily or unknowingly!
Our now wise individual implements a habit very few can — they treat their money like it has both value and a cost.
First, they save all their money. Then, they borrow 90% of their savings, minus the interest costs they were paying when they were an unsavvy individual, to pay their expenses. Understanding that all money costs money, with their future after-tax income, they repay the loan that they made to themselves with interest.
Practically speaking, very little has changed. Our wise individual is still saving money and paying expenses. They are still paying cash like when they were savvy and paying interest like when they were unsavvy. However, by treating their money like it has both value and a cost and paying interest to themselves, they are effectively saving possibly hundreds, thousands, or hundreds of thousands of dollars, simply by not losing money unnecessarily or unknowingly.
If you are paying both interest and savings to yourself, then you are in a tailwind.
Creating A Perpetual Tailwind Effect
Most people focus on what they can do to get out of the headwind effect and into the no-wind effect by paying off debt and by seeking after high rate of returns with high risk or consistent rate of returns with low to medium risk. What they fail to realize is that they don’t have to be at the mercy of their financial environment when they are in control of the process in which they spend or use their money.
Creating your own banking system helps you to treat your money it like it has both value and a cost. It also helps you to process money effectively by redirecting interest back into an asset you own and control while saving the opportunity costs associated with spending money.
You don’t have to go through all the work of creating a bank like the ones we already know about. If we understand the way life insurance companies work, we know that they have many of the same characteristics of those banks, most importantly for our purposes, lending. Life insurance companies have a pool of money just waiting to be lent out to whoever is willing to pay them a return for the use of said money. By becoming policy owners, we can tap into ownership of a banking system that is already in place.
With Canadians spending $1.81 for every dollar earning in 2018, it should be obvious that our need for finance is much greater than our need for life insurance protection. If we would solve for the need for finance through dividend-paying whole life insurance, we would automatically have much more life insurance than we’d otherwise receive and recover all the interest we are now paying to someone else’s bank.4
This is the perpetual tailwind effect. Because it is a banking system, it can be passed along to the next generation, and the generation after that.
- OECD (2020), Household debt (indicator). doi: 10.1787/f03b6469-en (Accessed on 14 January 2020)
- Becoming Your Own Banker. The Problem. Page 17.
- Becoming Your Own Banker. Creating Your Own Banking System Through Dividend-Paying Life Insurance. Page 21.
- Becoming Your Own Banker. Creating Your Own Banking System Through Dividend-Paying Life Insurance. Page 24.
Infinite Banking and whole life insurance are two separate and equally complicated topics to break down and discuss. Right now, my hope in writing these blogs is to build a basic understanding for Infinite Banking and while doing so, offer simple explanations for things and refer mostly to uncomplicated insurance plans. I will touch more on estate planning, corporate owned life insurance, and planned-giving in future blogs – always for education purposes and not intended as financial advice. Thanks for understanding!
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All the best in your financial journey,