How to Calculate Your Personal Net Worth and Why You Should

 Calculating and tracking your personal net worth is a very useful tool to help you monitor the performance of your household budget and savings plan.  

Step 1: Create a list of your Assets and Liabilities.  Let’s define each of these terms:

a) Assets:   property owned by a person, company or other entity that retains economic value and can be converted to cash (or already in the form of cash).  
The most common examples are cash in your bank account, securities in brokerage or retirement accounts, your home and your car.   What you want to capture in your Asset List is the value for each asset.   So, if you have $500 in your bank account the asset value of your bank account is $500.  However, if you purchased your home 5 years ago at a purchase price of $250,000 (your cost) and as of today the home value is $225,000, then current asset value is $225,000 and NOT the price you paid for your home.  In this example, the asset value has changed and it is important to use the most up-to-date asset value estimate to make sure your financial picture is inline with prevailing market prices.

b) Liabilities:  are the accounting opposite of assets.  An obligation that legally binds an individual or company to settle a debt. 
 Basically, for the purposes of calculating your personal net worth you should list any form of debt such as credit card balances, student loans, auto loans, home mortgage or any other personal debt.  Your Liabilities list should include ALL monies owed to companies or individuals.

 Step 2: Use the table below as a guide; On a note pad create a large “T” (or use Microsoft excel).  On the left hand side list all of your Asset names and Asset Values and add their values.  On the right hand side list all of your Liability names and Liability Values.   

Step 3: The final step is to subtract your Total Liabilities from your Total Assets.  The remainder is Your Personal Net Worth.   For many younger individuals, especially those who may have purchase a home over the last three or four years may have a negative net worth.  In other words their net worth is a negative number, (less than zero).

So, Why bother calculating your Personal Net Worth?
Tracking three numbers: Personal Assets, Liabilities and Net Worth over time can tell you vital information regarding the performance of your Savings Strategy.    Using a time series, which is just a visual representation of the changes to these three numbers over time, you will be able to identify very useful patterns in your behavior.  These patterns can tell you if you are on course or spinning out of control with respect to your long-term financial plan.

Here is an example of a visual representation of an individual’s net worth over time.  The chart begins at age 25 and as one would expect this person has little in the way of assets and liabilities and therefore, a modest net worth of $70,000, most likely in retirement accounts or inheritance monies.   In addition, if we measure the ratio of Liabilities-to-Net Worth expressed as a percentage, you see a low ratio of about 25%.   This means that this person has a low amount of liabilities relative to the little in assets he/she happens to owe.   However, if we assume that this individual purchases a home at age 29 and takes out a $350,000 mortgage to fund this purchase, he or she’s Liabilities-to-Net Worth ratio or “leverage ratio” jumps to 78% and we see a substantial uptick in both assets and liabilities.   But, what is important here is the trajectory and in this case things look pretty good.   Over time the leverage ratio and liabilities are decreasing while assets and net worth are increasing.  This person retires at age 65 with a house that is paid off, $2.7mm in assets and little or no debt.  This is most likely a good outcome.

However, a less attractive outcome looks something like the below.  In this case the individual starts out the same as last time, 29 years old, $350,000 mortgage.  However, this individual take on more debt in later years and his leverage ratio and liabilities peaked up on 3 different occasions ultimately leaving him with less savings and a large debt balance at retirement.  With a significant debt load and not enough in retirement accounts this individual may be forced to work later in life or reduce expenses, or both in order to have enough cash to fund his/her later years.

Calculating your personal net worth and monitoring your net worth and liabilities-to-net worth ratio performance are simple metrics that can help guide you through tough decisions during your life.   There are inflection points in each of our lives and time series analysis allows up to see the impact a financial decision will have on the trajectory of our finances.

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