I’ve been hearing a lot lately about personal net worth. Sure you hear the net worths of high profile business people or flashy celebrities it in the news from time to time. But apparently it’s not just for millionaires. Many money savvy people nowadays are tracking their net worth as a way to monitor their progress on the way to debt free living and financial independence.
So what is net worth anyway? Net Worth is a financial and legal term used to refer to the value of a person or business. Investopedia defines net worth as “…the amount by which assets exceed liabilities. Net worth is a concept applicable to individuals and businesses as a key measure of how much an entity is worth.” This concept is a basic snapshot of how much a person owns (in monetary value) at any given time. It is fairly basic because it is a static measure, only accurate for that one day or week that it is calculated.
Net worth does not account for income, cash flow, interest rates (for debts or assets), or other fluctuating figures. Net worth is, however, a great tool to track big picture finances over time. And if it’s tool used by the super rich, it’s probably something us aspiring rich should learn to use as well.
How to calculate net worth
Net worth is fairly easy to determine since it doesn’t involve cash flow or spending, it’s simply total assets minus total liabilities. And if that sounds like some nightmare memory from Intro to Bookkeeping in high school, don’t worry, I’ll walk you through it.
Basically, if you sell all your possessions and pay off all your debts, the amount of money you have left over is your net worth. If you own more than you owe, your net worth will be a positive number, if, however, you owe more than you own, your net worth will be a negative number.
First off, add up all you assets:
The money in your:
Bank Accounts; Retirement Accounts; CDs, and Money Markets; Investments; Piggy Bank under the mattress, etc.
Current market value of property*:
Cars; Homes; Boats, RVs; Investment or Rental Property; Valuable art, jewelry, collectables, etc. (safe to stick to the price of only that which can or has been professionally appraised)
*Note: For all your accounts and investments, you’ll count your current balances, and for your properties you’ll need to figure out the current market value or selling price, not what you paid for that asset. Kelley Blue Book has an online resource to quickly find your vehicle’s value, if you need help finding the market value of your home, a site like Realtor.com may help.
Next, add up all your liabilities*:
Car loans; Student loans; Mortgage(s); Liens; Credit Card debts; Any other debts
*Remember this is the big picture of all your finances, add the total money owed to all creditors, it’s not about monthly payments, it’s everything you owe right now.
Finally, we subtract the total liabilities from the total assets and are left with our net worth!
What Does Net Worth Tell Us?
Net worth is a different way of evaluating wealth than the more common indicators like income, or home and car values. It’s a still frame, not a video, of a person’s financial life. Let’s look at a couple of examples.
Dude no. 1:
Has $2,000 in the bank, owns a car worth $6,000, $16,000 in retirement funds, and a house valued at $120,000.
His liabilities are $350 on a credit card, and a mortgage debt of $95,000
Cash_____$2,000 Credit Card____$350
Total Assets___$144,000 Total Liabilities__$95,350
Dude no. 1’s Net Worth_________$48,650
Dude no. 2
Has $4,500 in the bank, a car worth $30,000, $36,000 in retirement, and a house valued at $270,000.
His liabilities are $12,000 on credit cards, $25,000 car loan, $30,000 in student loans, and a mortgage of $257,500.
Cash______$4,500 Credit Card____$12,000
Car_______$30,000 Car Loan______$25,000
Retirement_$36,000 Student Loan___$30,000
Total Assets______$340,500 Total Liabilities___$324,500
Dude no. 2’s Net Worth_______$16,000
And here’s where net worth is different than most other ways of determining wealth. Even though Dude no. 2 has a bigger house, a nicer car, and surely earns a larger salary than Dude no. 1, his net worth, what he’s left with if he had to suddenly settle all of his accounts, is less than a third of that of Dude no. 1.
(I know these are less accounts and much more basic finances than most people will have, but I’m keeping it simple for illustration purposes.)
Both of the guys in these examples came out with a positive net worth, and are certainly “living within their means” as most would define it. By taking income, cash flow, budgets, etc. out of the equation, they can have a more objective view of finances. By pitting assets directly against liabilities, they can see which debts put the most strain on their net worth.
Maybe Dude no. 2 wants to change his spending habits over the next year and pay off his credit card (bringing his net worth up to $28,000). Or trade his car in for a $10,000 car, leaving him with $5,000 in car loans and a net worth of $26,000. There are many creative way to increase net worth.
Why does knowing your net worth matter?
–Net worth is the most accurate form of determining personal wealth.
While income levels may increase, if the person’s liabilities, or even their living expenses, also increase, their wealth, or net worth, is still the same. It’s not the size of either your assets or your liabilities that matter, it’s the difference between the two that determines your monetary/financial worth.
–Easy way to track your wealth growth.
Calculating and tracking your net worth at regular intervals is an easy and invaluable way to watch the performance of your finances over time.
–It’s important to lenders.
Lenders often examine people’s net worths when evaluating them for loans.
–It’s better not to be in the dark.
That monster under the bed is scary, it’s much better to shine some light on it and see what you’re really dealing with.
So, what is your net worth? Is it higher or lower than you anticipated?
Bonus!! Print off this worksheet to calculate your net worth, including a section to help you improve your net worth in the next three months!