One of the terms you probably have seen a lot in your search for personal finance information is net worth. You could say that net worth is the same thing as wealth. While I think in certain situations the terms are not interchangeable, I will say that net worth is something that you can actually calculate, as opposed to “wealth,” which I think includes things like free time, happiness, and relationships — things that are hard to put a dollar figure on.
Today, let’s talk about net worth. It is basically two things, one you want more of and one you want less of:
assets – liabilities = net worth
Sounds easy peasy! But what is the difference between assets and liabilities?
Assets (Things You Want to Grow!)
Assets are things that have value – think of assets like something you could sell for cash or trade for something else. Here are some things that might be assets:
- 401k
- IRA
- savings account
- a home you own
While the possessions you own – like maybe an expensive camera – are things you could sell for value, I don’t tend to include those in a net worth review because those items are going down in value because you’re using them. It’s easier to think of assets as items that, on average, are growing in value over time. And the more that you put into them, the more that you get out of them.
If you do an inventory right now of the assets you have with potential for future growth, how are you doing? Are you building assets? Assets are crucial to protect your financial future – they can help you in future loan/borrowing situations, and of course you can tap into them when needed for funds.
What about cash? Or a car? Or a boat?
There are lots of assets that do not fit into my loose rules above. Cash, for example – you could trade it for something else. But, it doesn’t grow in value over time – due to inflation, it loses value. If you have a car, yes, it is an asset, but, it quickly goes down in value. And if you own a boat, color me impressed – but tell me how much you spend on maintenance!
Liabilities (Things You Want to Reduce/Eliminate!)
The other side of our easy-peasy net work equation is liabilities – these are the things you want to reduce and/or eliminate. These might include:
- car loan
- student loans
- mortgage
- credit card debt
Aren’t there good debts?
Having a little bit of debt is not a bad thing, it actually keeps your credit score up – for example, having a credit card balance that you pay off monthly. But if you have high-interest debt, such as credit cards, ditch that ASAP.
Were you surprised when you added up your liabilities?
Net Worth: It’s Not All What It’s Cracked Up to Be
How are you feeling about your net worth calculation? I think that net worth is a good basic framework to check-in and see how you are doing, but it’s crucial to dig into the details and look at the specific components in your net worth. The reason is that net worth is a snapshot in time, but assets and liabilities are moving objects.
A great time to do your net worth exercise is during something like an annual finance ‘date‘ where you can track your progress over time. Hopefully, you’ll see that your net worth is slowly increasing, although be mindful that any ups and downs in the market can temporarily affect this figure.
How are you feeling about net worth? What changes do you need to make to feel more on track and confident about your financial future?