When I bought my house last year it was the first time anyone had ever asked me what my net worth was. When I didn’t have a figure ready to go I could hear the sigh at the other end of the line. Now that I know a little more about mortgages, loans and personal finance in general I can see why the person at the other end was sighing. She knew just how much I would have to learn before I could make it through the process of buying a house.
Calculating Your Net Worth – The Snap Shot
Your net worth is basically a snapshot of where you are in life financially. The idea is that if you sold all your assets (an asset is something you own) and paid off all of your debts (or liabilities as accounts call them) what would be the underlying figure? This sounds easy enough, but it actually takes some time to do correctly. It has nothing to do with what your current, or future income is, only what goods and investments you have been able to accumulate versus what you owe.
Net worth is commonly used to decide if someone is in the right place financially to receive a loan, or how large a loan. For example in my own case it was determined that my net worth, while not impressive, was enough for my relatively small mortgage. It is also a useful financial indicator. By updating your net worth you can give yourself a visual reminder of how important it is to save money. Many people use a monthly update of their net worth to set financial goals for themselves and encourage the right decisions. In my opinion it is a far more accurate picture of someone’s financial situation than a yearly or monthly income statement is.
Some common examples of assets are:Calculating your net worth – Assets
- A house (multiple ones if they are a landlord)
- A car
- Private Pension Plans
- Job-Related machines, tools, and equipment
- Home Furnishings
- Valuable collector items
- Accounts receivable (what people owe you)
Basically anything that holds monetary value that you own (even if you owe money on it) is an asset of yours and goes in the ‘plus’ column when calculating your net worth. People who own their own business can have a much more complicated ledger than this, but this will give you the fundamental idea.
When calculating assets use conservative numbers. You’re not doing yourself any long-term favours by deciding that your 15 year-old Chevy Cavalier is worth $15,000 as a classic car. Honestly put down the market value of your items. For something like a house or a car I would suggest taking 10% off of what you think the value is just to be on the safe side. Most people routinely value their own goods at a substantially higher rate than others do because of the emotional attachment. Also, keep in mind the concept that goods like a car, boat, or ATV will depreciate quite quickly. You should factor this into your net worth equation as well. For example, if you buy a new car, three years later when you calculate your net worth, it is not worth what you paid for it, but probably about half (this is why new vehicles are not a good investment).
Calculating Your Net Worth – Liabilities
Liabilities are debts that you owe of any kind. These are not your monthly expenses such as the utility bill and rent (unless you are months behind), but overall money that you owe above these. Some common liabilities most people would look at are:
- Student loans
- Car loans
- Loans of any other kind
- Accounts payable (what you owe someone else for goods or services)
- Credit Card debt
Once you have your assets and liabilities figured out you simply subtract the liabilities figure from the assets final figure. This is what your net worth is as of this moment. Net worth is great for showing the difference between good debt and bad debt. For example you may have a $150,000 mortgage, but you should also have a house worth at least that much, so they would cancel each other out on our net worth balance; however, something like a new car loan that is taken out over a long period can mean that you will eventually owe more than the car is worth. That is bad debt. The worst kind of debt is called consumer debt. This is when you take out loans (or even worse use credit cards) to buy things like big screen TVs and go on trips. This is a really quick way to drop your net worth.
If you have just done a rough mental check of calculating your net worth as a student and realized that you have a negative net worth don’t worry! You’re not calculating it wrong, with student loans and everything else you easily could be in negative territory. On the bright side, the education you have should help you get a higher paying job that can increase your net worth faster so it isn’t necessarily ‘bad debt.’ The important thing as a student is to worry about keeping your liabilities from going too high and into ‘the red’ (this is financial talk for bad, black means positive, red is negative) so that you can start accumulating assets when you get out of school instead of paying back liabilities for a substantial period of time.
Take a stab at calculating your net worth today!