Net Worth – What, Why, and How
Net worth, just like investing, may seem like a foreign word for some. You most likely only hear it on celebrities or politicians. But, we all have our net worth and we all must become aware what our current net worth is.
In this post I will be sharing the what a net worth is, why you must know it, and how you can compute your own net worth.
What is a net worth
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Your net worth is the difference between your assets and liabilities. It is a fundamental personal finance metric that shows how close you are to achieving financial freedom.
In mathematical term:
Net Worth = Total Assets – Total Liabilities
When you calculate your net worth there would be two possible answers. A positive net worth means your assets are greater than your liabilities. Having a positive net worth is a good indication that you are living below your means.
A negative net worth means your liabilities are greater than your assets. This also indicates that you are living above your means, incurring debts or liabilities here and there.
Now let’s define the two things you need in order to calculate your net worth – assets and liabilities.
Asset refers to anything that has value – whether tangible or intangible that you own. One of the ways you can build wealth is by accumulating as much assets as you can from cash on hand, personal belongings, investments to properties. Your assets can be categorized as follows:
1. Current assets – short-term assets that can be converted to cash quickly. For example your cash on hand and your savings account
2. Fixed assets – long-term assets that can be converted to cash upon sale in the future. Examples are your house, car, and/or furnitures.
3. Financial assets – all of your portfolio income and/or investments. Examples are market value of your stock shares, your mutual fund shares, etc. Your assets are everything you own, of value. Not everything you have can be accounted as assets. As you check what you have make sure that you take into account the following:
- Is the item liquid enough?
- If you sell or redeem it, can you get the cash fast? Is the item already depreciated in value? If you sell or redeem it is way too far from the amount your starting capital? Would it result to negative instead?
- Is the item yours in the first place? If you have assets that in a joint account, owned by your parents or family heirloom, make sure that everything got sorted before you put it under your assets.
Let’s dive closer on what your typical list of assets would include:
Current Assets – Your Cash and Savings Accounts
Take a look at the cash you have at the moment.
It could be the cash you have in your wallet, your alkansiya or piggy bank (no need to count if they are coins, just do rough estimate), your savings account, checking account, or time deposits.
You can also add your emergency fund, travel fund (if you have), and other funds you have saved up for. Include the cash that are readily available.
Fixed Assets – Your Properties
Now you want to take a record of all the items you have with market value. What does market value mean? It means that property can be sold in the future for cash.
Common fixed asset will include real estate. If you own a house or an apartment, you should account for it in your net worth. You can talk to an architect to have a rough estimate on the value of your property. If it is a fully-paid condominium, you can check the current value online.
Now, you should also account for the repairs that you will need to do in case you sell the property. A property may not be worth as much as you think. There are fees involved from paperworks that you also need to prepare for.
You can also include your car although this is an asset that depreciates in value fast but you can still add it as part of your assets. Just make sure that you update its value. Same with your furnitures and gadgets.
Do you collect jewelry that has value? Or artwork? Estimate how much they cost in total.
Financial Assets- Your Investments
Have you started investing your money? If yes, then include all the investment accounts you have as part of your assets.
This could be the money you have in your managed fund accounts like mutual fund, unit-investment trust fund, etc. You can also include the money you have in stocks, any bonds that you own, you retirement accounts, etc.
For investments, you have to record the current value including any buying power you have as you calculate your net worth.
Liabilities refer to anything that you owe or you need to pay. There are two types of liabilities:
- Current Liabilities – normally due and payable within a year or less such as credit card dues.
- Long Term Liabilities – things you need to pay for more than a year like mortgage.
Below are more detailed explanations on what your typical list of liabilities would include:
Current Debts – Credit card debt, personal loans, etc.
The most common example of current liability would be credit card debt. I think there’s nothing wrong when it comes to owning a credit card as long as you know how to handle it. The key is to not let credit card be a replacement of your cash.
Should you incur unwanted credit card debt from overusing your card, late charges, interest rates, etc. then you should include it here.
Another example of liability would be personal loans. If you have any financial obligation to family members or friends, write them down as part of liabilities in your net worth.
Do not forget about the money you owe from other people no matter how small they may be.
Long term Liabilities – Mortgage Balance, Car Loan, etc.
The second most common liability is mortgage. This is the amount you owe to the bank or government institution like PAG-IBIG for the purchase of your home, apartment, or condo.
Include the balance of your mortgage under your liabilities as you calculate your net worth.
Another long term liability would be car loan if you got a brand new car but still paying for it in the bank.
Why you should know your net worth
Knowing our current financial net worth is an important to do list in personal finance. It could be your reference point, a map that could lead you to your ideal financial destination. It can be daunting at first that you are computing for your total assets and your total liabilities but your net worth can point out many things.
Here are all the reasons why you should know your net worth:
- Point out your priorities. What part of your finances do you need to put attention to? Calculating your net worth will help you know where you should prioritize. Is it paying off debt since you have negative net worth? And if your net worth is positive what type of assets are you accumulating? More on properties? Is it time for you to step up and invest? Or perhaps you don’t have enough savings compared to your investments.
- Determine your next steps. You will find a lot of financial tips and must do’s online but what exactly do you need to do in your current finances? Knowing your net worth would show what next actions you can take in order to achieve financial freedom. You’ll realize that to pay off your debt, you need to cut back on your expenses and start budgeting. You’ll know the current investments that you have and whether it’s time to reallocate.
- Assess if you’re moving in the right direction. Ultimately, knowing your net worth will help track your progress toward achieving financial independence. If your net worth is declining then it means you’re taking on more liabilities than you should.
How to Calculate Your Net Worth
As mentioned in the beginning, the simple formula in calculating your net worth is this:
Net worth = Total Assets – Total Liabilities
Step 1. Add all the things that you own or your assets along with their estimated market value.
Step 2. On the other side have a list of all the things that you owe or your liabilities.
Step 3. Subtract the sum of your assets to the sum of liabilities and you will get your current net worth.
You can check all of my past net worth reports for examples.
Final Notes from SavingsPinay
One of the key things I did in order to get our of the financial rut was to calculate your net worth. It was such an eye opening activity to do and one I would highly recommend.
It’s important to have a grasp on where you stand financially and you can only that if you know what your number is.
Time to grab a pen and paper and start calculating your net worth!
Izza of SavingsPinay helps Filipinos bridge the financial literacy gap one content at a time by providing insights and tips on budgeting, saving, investing, side hustle and growing your net worth. Aside from this blog she also writes at www.izzaglinofull.com, a beauty and lifestyle blog for frugal Pinays and manages, www.izzagevents.com, a wedding and event business since 2011. For inquiries, topic suggestions or future collaborations email her at firstname.lastname@example.org