Net Worth Explained

Now that I have the obligatory “what this site is about” entry completed, I can start to get down to business. As Stephen Covey would say, let’s “start with the end in mind.”

The “end” here is our net worths – yours and mine. Net worth is simply all of your assets added up to get a (hopefully) big number from which is subtracted all your (hopefully smaller) liabilities – like debts. This leaves your net worth – what you’d have left if you sold everything you had and paid off everything you owed.

Let’s do a simple example so we’re all on the same page. Let’s say Mary owns her home that’s worth $200,000. She owns nothing else. If she has a mortgage of $50,000 (and no other debts), her net worth is $150,000 ($200,000-$50,000). At least in theory. Yes, she’ll have selling costs and the like, but this is just a simple example to illustrate a principle. You get the idea.

If you need a bit more information on net worth (or are just a net worth junkie and crave articles on it), review the set of posts from JLP at AllThingsFinancial on the subject. He has a five-part series on net worth that is really great. Here they are: Part 1, Part 2, Part 3, Part 4 and Part 5. We'll cover a lot of this later, but some of you might want more information now.

Unfortunately for Americans, we’re not good at accumulating net worth. According to the Administration on Aging:

The net worth (assets minus liabilities) of households increases with age until age 74 and declines somewhat from age 75. The median net worth of the elderly households (with a householder aged 65+) in 2000 was $108,885 as compared to $55,000 for the total population. The largest asset type is home ownership which accounts for $85,516 or 78.5% of this net worth.

Ok, let’s do the math. The elderly have an average net worth of $109k of which $86k is tied up in their houses. That means they have just over $20,000 in liquid net worth at most. Yikes! That’s not much. And look at the other number – $55,000 is the average net worth. Pitiful. But it gets worse.

Here’s another article (though a bit dated, it’s not that old) from America Saves. They say:

One study, conducted for the Consumer Federation by an Ohio State University consumer professor, showed that the average household in 1998 (the most recent data available from the Federal Reserve) had a net worth of $71,700, mostly from home equity.

But that same household had only $9,850 in net financial assets, including retirement money. And households with income under $25,000 had net financial assets of just $1,000.

Is it any wonder we’re in such sad shape? We spend like crazies (I’ve heard it said that if you’re an average world citizen you spend 98% of what you make – unless you’re an American and then you spend 110% of what you make), we live like crazies (I’ve heard it quoted that the average family is three paychecks away from financial trouble), and we don’t save (we do the opposite – we borrow). It’s a very sad situation.

We (you and me) are here to change that through this site. We’re here to help all of us increase our assets and decrease our liabilities – which, of course, will increase our net worths by default. And even if the affluenza-influenced masses don’t follow us, we’ll be the ones who will be laughing in the end since we’ll have solid financial futures. Stay tuned fellow net worthers.

Comments

[Gangadin]

One easy tool for netwoth calculation is quiken software.I use it and will recommend it.

[chuck]

The largest factor in NW accumulation is cost reduction and savings ratio. If you can reduce your costs and increase your savings and allocate that savings towards investments then you're likely to propser. If you refuse to accept a lower lifestyle and don't want to sacrifice then you're unlikely to build wealth.

[John]

What percentage of my net worth should be liquid assets?