So, you want to actively plan for your personal goals and for retirement, but you are not sure where to start? A good place to start is with your net worth. That one simple number is a pretty good indicator of financial health. The process of calculating it will likely tell you a lot about your financial strengths and weaknesses.
What is my net worth?
Your net worth is not about your annual income – in fact, income is not even a component of net worth. A large income and a big house do not equal a high net worth if that big house and everything in it is attached to a lot of debt. And just because an arbitrary target in assets is reached (we see $1 - $5 million being talked about a lot in articles…), does not mean you can retire or that your net worth is where it needs to be if your spending isn’t in line with the assets.
We have seen families with giant salaries struggle to pay their mortgage, and others with modest incomes have money to spare!
It’s not about what you make. It’s about what you keep.
Your net worth is the value of all your assets (what you own) minus the value of all your outstanding liabilities (what you owe).
If you were to ADD the value of your
· bank accounts
· investment accounts
· market value of your home
· cash value of life insurance policies (not the face amount!)
· auto and personal property
· business interests
and then SUBTRACT your
· car loans
· business loans
· student loans
· credit card balances
· any other amounts you owe
you will find your financial NET WORTH. This is an important number to you for a several reasons:
1) It gives you a real picture of your current financial condition. Whereas someone can possess many assets, if they owe as much or even more, then their financial situation is not as good as it appears. On the other hand, someone may not have a large value of assets, but if they have little to no liabilities, their financial situation may be better than it appears.
2) Your personal net worth gives a reference point for you to measure progress toward debt reduction, savings retirement goals, as well as other dreams and aspirations. It reveals to you whether your financial activities including working, saving, spending and borrowing are leading you in the right direction or not. It also shows you whether your financial choices such as your career path, owning a home, or your investments are actually producing the results you want.
3) Calculating your net worth periodically can motivate you to make wise financial decisions over time as you see your net worth improve. It also reveals trends in your monthly spending habits and their effect on your financial condition.
4) Determining your net worth forces you to calculate what your assets are worth in the current market if you were to liquidate them.
Net worth is one of the top three numbers you should keep track of, along with your monthly savings targets and your credit score.
Secondly, (and more importantly), how can I increase my net worth over time?
The simple answer is to change your monthly habits to spend less, pay down debt, and save more. Juggling financial priorities can be a challenge, but the effort to work through the process is worth it!
If you start building an emergency fund and keep liabilities stable, your net worth will increase. If you spend next year paying down student loans and/or credit cards, your net worth will go up again. Buying a house should, over time, increase what you own (but be careful to not view your house only as an investment). If your investment accounts increase in value, or you set aside money for retirement, your net worth will reflect that and increase as well.
If you’re a young person, realize that you might start with a negative net worth, especially if you just got an expensive degree that will significantly increase your income for years to come. This does not mean your financial situation is in bad shape. It just means you need to be patient as that net worth begins to become positive over time.
But don’t just buy more to have more. Save more to give yourself the freedom to pursue the goals that are important to you and your family and to become more financially independent. The importance of a financial planner is to help you analyze your financial condition, point you in the right direction, and keep you on track to meet those goals.
So, know your net worth! And schedule a visit with us to review how to increase it.