Here’s why net worth is so important and how you can measure yours.
Why is net worth so important? That’s a great question, and today we’ll answer it while also unfolding the definition of ‘net worth.’
Net worth is essentially the sum of all the assets you own (more on that in a second) versus the outstanding debts you owe. If you add these two numbers together and come up with a positive-sum, you have a positive net worth. If you add them up and the result is a negative-sum, you owe more than you have and have a negative net worth.
The first reason net worth is so important is that there’s no better way to accurately measure your wealth. Second, it’s critical in tracking your progress over time. If you understand your net worth today, you can set objectives for how you want your net worth to grow over time. So many people focus solely on their assets and how they appreciate over time, but if your liabilities appreciate concurrently, your net worth may not be growing. Pay attention to the bottom-line number so you understand where your finances are going long term.
Understanding your net worth also helps you put into perspective the importance of your liabilities. Examining the money you owe helps you determine a pathway to paying those monies off and prioritizing your cash flow. Finally, you need to know your net worth because, if and when you take out a loan, the bank needs to know your net worth too. Basically, the sooner you can wrap your arms around what your net worth is, the better off you’ll be—especially in the long run.
When calculating your net worth, there are a few things you need to do. Obviously, you’ll first want to review all of your investment accounts. This means bank accounts, retirement accounts, checking and savings accounts, any Series EE bonds you haven’t cashed in yet, etc. Any kind of investment asset should be on the list.
If you own real estate, that’s another asset you need to review, so log on to Zillow and get a realistic valuation of your property (or properties). The same goes for if you own a business—how much is that business worth? What’s its equity? What are its assets and other cash accounts?
Next, go over your personal assets, which include items like cars, jewelry, and so on. We tend to not include cars and jewelry in our net worth plans, though, because the true liquidation value of these things usually isn’t all that great. However, personal assets collected specifically for investment purposes, like collector cars or certain types of gold bars or raw diamonds, tend to have more intrinsic value.
After you’re done reviewing your assets, it’s time to review your liabilities. This means any mortgages (whether it’s your primary residence or a rental property), credit card debt, medical debt, tax liabilities, or anything other debt you owe personally or professionally.
After all is said and done, hopefully, the difference between your assets and liabilities is a nice, big, positive number. In any case, when looking at your net worth statement, think about how you can improve it. The most obvious way is to pay down your debts. Perhaps the best way to accomplish this is by paying down your mortgage. Knocking down any credit card debt is also a nice place to start.
Everyone’s situation is different, but the bottom line is you need to understand your net worth. Understand what it is today so you can use your liabilities to grow your assets.