How do you calculate net worth? This article is going to give you that information and also add in other things that you need to consider when calculating your net worth, thus giving you your “true net worth”.
One thing I’ve realized is that actually knowing your “net worth” is very helpful to know for a multitude of reasons, but unfortunately, most lower or middle-class people have no idea what their net worth is.
That should tell you something!
Knowing your net worth is another step to moving out of financial ignorance, which is the category that most people probably fall under (no offense-also no judgement). But if you don’t know what your net worth is, then this is important.
How to Calculate True Net Worth
The answer to this is rather simple, you add up the dollar amount of all of your assets and subtract all of your liabilities (debts) from that. Simple.
But what constitutes as assets and liabilities? The answer here may not tell the entire story. But in general, this is what is considered for each.
Assets:
Liquid Assets including:
- Cash on hand
- Checking and/or Savings balance
- Money Market Accounts
- Certificate of Deposits
- Treasury Bills
Investments including:
- Retirement Plans (IRA, 401k, 403b)
- Stocks
- Mutual funds
- Life Insurance cash value
- Pensions
- Bonds
- Annuities
Physical Assets including:
- Your home or primary residence
- Any second home or vacation home
- Rental properties
- Vehicles (Cars, Boats, RVs motorcycles, etc)
- Jewelry
- Furniture
- Technology items (TVS, laptops, cell phones, etc.)
- Collectibles
Liabilities AKA Debts:
Secured debts (Collateral):
- Mortgage
- 2nd Mortgage
- Home Equity Line of Credit
- Car Loan(s)
- Rental Mortgages
- Margin Loans
Unsecured Debts (No Collateral):
- Credit Card Debt
- Student Loans
- Medical Bills
- Personal Loans
- Back Taxes
Issues With This Net Worth Calculation and Other Things to Consider
This is basically the standard answer to calculating net worth. But in all reality, it’s more so tailored to high-income earners because it doesn’t consider a couple of main factors.
In other words, using this calculation may not give you a complete answer to where you stand financially.
Before we get into certain issues I want to make it clear that I’m not a financial advisor and none of this is financial advice. I’m just jotting down some things that come to mind that hopefully you find useful. Ok here goes.
The first issue is for people that pay child support or alimony. Child support doesn’t have a total outstanding debt number so usually, this isn’t considered as an outstanding liability.
But for someone paying $500 or a thousand bucks a month, this is clearly giving an inaccurate representation of their liabilities!
If you want a real answer to where you stand financially then you could take what you pay monthly for this multiplied by the number of years you will likely be paying it and add this down as “unsecured debt” when considering your liabilities.
You don’t have to take that approach though, you could just simply subtract this from your income. In other words if you make $4,000 per month and pay $1,000 in child support, then your income isn’t $4,000, it’s $3,000.
I know this may not be something you want to look at, but it’s giving you a more accurate report of where you stand financially. And this would be the same for any similar liabilities like this.
The next big issue, and this will apply to a lot more people, is how your mortgage/primary residence is calculated.
Primarily people that don’t own multiple properties may want to consider this.
While comparing the value of your house to what you owe is how you calculate your net worth and is technically correct. This may not matter for most people who have no intention of selling their house to “downgrade” to less debt.
In other words, if you aren’t going to sell your house it doesn’t really matter what it’s worth, what matters is whatever mortgage you are paying.
Again, just to be clear, I’m just giving you another way to look at your balance sheet to see where you stand financially.
But let me explain this in simple terms using an example. Let’s say you have a home value of 100k. You still owe 60k left on your mortgage. When you are calculating net worth this shows up as 100k-60k=40k. So you are positive 40k when seeing how this reflects on your “net worth”.
So is this really your true net worth?
Most people have no intention to downgrade their home. In fact, they are usually wondering when they can upgrade. In other words, they usually tend to sell their house whenever they have enough equity to use as a down payment on an “upgraded” house that costs more.
That being said, another way to look at this is to look at it straightforward as debt. You owe 60k. You’re negative 60k.
Or another way you could look at it is to think of it in terms of the equity itself is what you own, not the full home value, and the debt is still your debt.
With the example here it would look like -60k+40k= -20k. The value would stand at negative 20k. And honestly, I think this is a great way to look at it.
In this situation, you wouldn’t be in the positive until you’re over halfway on your mortgage (or home value). So until you have paid down 51k of your 100k debt then you’re not in the positive. You’re in the red.
Now, this approach would only be used on your primary residence and wouldn’t likely make sense to look at this way on any additional real estate you own.
Again, this approach is not technically accurate when calculating net worth, but this is basically the reality of the situation and gives you a more accurate view of where you actually stand financially.
Now, I realize, again, that you probably don’t want to see this. But being financially ignorant isn’t a positive thing. Which brings up.
Why It’s Important To Know Your Net Worth
I mentioned above that most lower and middle-class people have no idea what their net worth is. At the same time, people who have money are much more likely to have an idea where they are in terms of their net worth.
Do you think this is saying something?
I think it does. The more likely you are to know your net worth the more likely you are to make decisions that will improve your net worth.
Think about it. Would you be less likely to go out and buy a brand new car knowing it loses 10% of its value when you drive it off the lot?
Would you time the market better when purchasing a house?
Would you be more inclined to invest and less inclined to spend money on things you don’t need?
Would you be less likely to take out a predatory loan?
Would you be less likely to get ripped off when buying….anything?
The answer in my opinion is a resounding YES.
And this is what I’ve personally noticed as well. The instant I started tracking my net worth I immediately started making better financial decisions.
How Should YOU Track Your “True Net Worth”?
I gave a few different ways for how you can calculate net worth. So which will work for you?
You can decide which route you want to choose from. But my suggestion is do all of them. In other words, track the standardly used metrics which is going to give you the most positive number. Then do the other ways I mentioned as well.
So also track your net worth using your home equity as a positive balance as opposed to your home value. Then also track your net worth without using any of your home value.
A simple way to do this is by using an excel sheet as a budget/balance sheet. It may not be a completely automated way of viewing your financial portfolio, but it’s a much more hands-on approach and can give you the flexibility to track your assets/debt exactly how you want.
I’ve personalized my own and it gives me a really good breakdown of my entire financial portfolio.
Summary
If you have no idea what your net worth is then now is a great time to get started figuring out where you are. You can use a standard net worth calculator and see where you stand, and you can also look at it a bit differently with the suggestions I gave to get your “true net worth”.
What about you, have you been tracking your net worth? Did this article give you some insight into how you may want to track your net worth? Are you going to calculate your net worth for the first time ever?
Let me know in the comments below!