Several times a year the media writes about a celebrity or highly paid professional who went broke. The examples are numerous – Mike Tyson ($300M), MC Hammer ($33M), Nicholas Cage (owed millions on bad property deals), and dozens of others. Many lottery winners also have a poor track record with squandering their newly found wealth. How does someone who makes millions of dollars go broke?
The answer is simple, really. They go broke the same way millions of Americans go broke. They spend more than they earn. The only difference is the scale at which they spend money, and the fact they are in the public eye.
The most basic financial principal is the easiest to learn, but sometimes the most difficult to follow. You cannot become wealthy if you spend more than you earn. It doesn’t get any more basic than that.
So why is it so hard? Why do celebrities go broke?
A Tale of Two Football Players
Here is an example of an NFL rookie who has his head in the right place: Alfred Morris and his $1,000 car. To be clear, Alfred Morris is a rookie, and he is earning the league mimimum. He didn’t get a multi-million dollar signing bonus, and he isn’t earning millions of dollars a year like some veterans. But he is making the right long-term financial decision.
The average NFL player is only in the league for about 3 years. Alfred Morris could hit it big, or an injury could derail his career. The point is, he knows it is more important to build long-term financial security before buying a material possession that will depreciate and offers no long term security.
Here is an example of an NFL Player who reportedly squandered $26 million. This story is a contrast to the above story, but unfortunately, it is much more common. Vince Young was the third player taken in the 2006 NFL draft. He received a guaranteed $26 million rookie contract. He made two Pro Bowls. He had a career most people can only dream about. Now he is reportedly broke and his career has been derailed. The problem is that he doesn’t know where all the money went. He has filed a lawsuit with his former agent and financial firm, claiming they misappropriated $5.5m. The courts will hear his story.
How Do Millionaires Go Broke?
The point of this article isn’t to bash Vince Young. His story, while unique to him, really isn’t that uncommon. He shares many similarities with other celebrities, athletes, and others who earned millions of dollars quickly. Here are a few of the common reasons millionaires lose everything:
A Million Dollars isn’t Really a Million Dollars
A million dollars seems like a ton of money – and it is. But it’s also not as much as some many people think. Anyone who has ever earned a paycheck understands that they don’t get to keep everything they earned. Taxes take up a big portion of earnings. At the highest marginal tax bracket, taxes take up approximately 35% of the earnings. The highest state taxes can approach 10%. Suddenly, that million dollar pay day is now just above half a million. But we’re not done.
Agents, managers, and lawyers need to get their cut (this usually only applies to athletes, musicians, actors and similar fields). Agents often charge around 6% for athletes. Managers and lawyers can also charge similar amounts, though up to 10% is not uncommon.
That million dollars is now officially right at, or even below half a million dollars – and we’ve only taken care of the absolute basics – paying taxes and the agents, lawyers, managers, and others who helped us achieve this pay day.
Who else are they paying? Many celebrities hire personal assistants, trainers, accountants, and others to help them manage their time, money, health, etc. These people also need to be paid, and that needs to be accounted for before anything else.
That million dollar pay day is now worth about 40% of the original face value. But that’s not the number these millionaires are seeing – they see the paycheck, not the final number.
Expectations of Millionaires
When you are surrounded by other millionaires, keeping up with the Joneses takes on a new meaning. Buying a new sedan or SUV when your neighbor does, won’t cut it. A new car for every season is expected. Every new millionaire needs a Bentley, Aston Martin, Ferrari or similar other exotic sports car, right? McMansions aren’t enough. You need a real mansion.
Of course, these are exaggerations, but only to a degree. It is easy to get into the mindset of spending money when you are receiving six and seven figure checks on a regular basis. And it’s even easier when you see your peers spending the same way.
Easy Come Easy Go
Many overnight millionaires aren’t accustomed to having wealth. This goes for almost everyone who spent years honing his craft for a shot at glory, then suddenly hitting pay dirt with a massive payday. Even though it may have taken years to achieve that payday, it often comes at once, making it seem almost too easy. And it’s too easy to forget how hard the path was to get there.
Many new millionaires are too trusting. Many of the stories you will read about broke celebrities have a similar tale of a trusted friend, family member, or manager who misappropriated or mismanaged funds (See Vince Young’s story above). Sometimes there was theft involved, but just as often it is incompetence that leads to the downfall. Bad business deals also fall into this category. Everyone has an investment idea. But not all investment ideas are created equal, even if they come from trusted friends and family members.
Generosity can be a fault. It’s hard to say no to friends and family members, especially when you came from nothing (financially speaking). MC Hammer has spoken openly about how he went through his millions by keeping close to 200 friends and family members on his payroll, running through over $500,000 a month to cover the costs of his entourage. Sometimes it’s hard to say no, even when that is the best decision.
Preparing Celebrities for Wealth
I don’t think anyone can truly be prepared for sudden fame and wealth. But the professional sporting leagues have an obligation to help their athletes prepare themselves for the changes they will go through once they have the sudden fame and wealth that comes with being a professional athlete. The NFL offers a Rookie Symposium, which is a workshop to help make NFL rookies aware of some of the temptations that come with being in the NFL. Personal finance is one of the topics covered in the conference, even if it is only briefly covered. Unfortunately, other celebrities don’t often have these events and are left to their own devices when it comes to managing their wealth and fame. It’s a tough road, and one that not everyone is cut out for.
The Millionaire Next Door Has More Success in the Long Run
The Millionaire Next Door, a popular book by Thomas J. Stanley and William D. Danko, chronicles the lives of millionaires. The average millionaire drives a used vehicle and lives in a nice home, but not a mansion, and buys quality goods, rather than luxury items. In other words, their lives aren’t ruled by possessions. It takes most millionaires years to reach that status. Because it takes many of them years to reach that status, they aren’t as easily swayed by the myth of unlimited riches and spend their money accordingly.
Slow and Steady Wins the Race
There are no quick and easy answers to help celebrities and instant millionaires prepare for their newly found wealth. It takes practice to learn how to be wealthy and live within your means. It’s hard to say no to yourself and others when you are accustomed to everyone telling you yes. Just because you can buy a castle, doesn’t mean you should.
I’m not a millionaire yet, but I’m working on it. And when that day comes, I will probably celebrate by giving my wife a hug, and maybe taking her out to dinner. In the long run, my goal of becoming a millionaire is for long term financial security, not so I can spend lavishly.