Understanding Net Worth
Your net worth is a core indicator of your economic position and financial wellbeing. Learn how it works and why it’s important here.
When we think of how wealthy people are, a common term that comes to mind is their net worth. This represents how much one owns (sum of all assets) vs. how much one owes (sum of all debts). It can be a key indicator of how valuable you are, as well as where your economic position is relative to others.
This article will provide you with an overview of how net worth works and why it’s so important in the financial world. You’ll also learn how to calculate your value. Finally, we’ll outline strategies you can use to increase your net worth.
Net Worth Definition and Importance
Your net worth is made up of the total value of your assets (e.g., cash, stocks, mutual funds, retirement accounts, properties, etc.) less any debts you owe (e.g., credit cards, car loans, etc.). Unlike your net investable assets, your worth includes both liquid and non-liquid assets.
Net worth can apply to both individuals and organizations, such as companies and governments. Regardless of who or what, it serves as an important signal of economic positioning and wealth. For this reason, we use the number as a way to stratify individuals into different groups, such as high- or ultra-net-worth.
We also use net worth as a benchmark or target, especially as it relates to financial planning. For example, if you’re planning for retirement, you might aspire to reach a specific value at a set age. Financial advisors, on the other hand, are more likely to use your investable assets as a barrier to entry for their services.
Finally, your net worth can come into play as it relates to your estate. As probate occurs, the assets you bequeath to heirs often come as a percentage of your total value. This is especially true if you don’t leave a will, leaving it up to a judge to divvy up your assets.
Net Worth vs. Investable Assets
Another figure you might come across is your net investable assets. This number represents how much you currently have to invest right now. Typically, it only refers to liquid or near-liquid assets, such as stocks, mutual funds, bonds, or bank accounts. Non-liquid assets, such as properties, are left out.
Unlike net worth, your investable assets may be of particular interest to financial advisors. Often, firms require a minimum investment before you can hire them. The more you have to fuel your portfolio, the more likely you are to receive professional assistance.
How to Calculate Net Worth
Your net worth is the total value of your assets, minus any liabilities (debt) you have. An asset may be any item, property, or investment you own that could be sold, as well as cash you have on hand. Liabilities typically refer to debts, such as from credit cards or other loans, that subtract from your overall value. Below is a breakdown of what each category often includes:
Your assets are a combination of cash you have, either physically or via bank accounts, as well as investments you own. This also applies to alternative investments, such as collectibles. Below is a list of the most common assets you can use to calculate your net worth.
- Checking and savings accounts
- Certificates of deposit (CDs)
- Mutual funds
- Roth IRA
- Rental properties
- Collectibles (e.g., watches, jewelry, art, baseball cards, etc.)
- Stake/equity in businesses
Liabilities refer to any expense that takes away from your net worth. This mainly comprises debts you owe to lenders, such as from credit cards or any outstanding loans. Other expenses, such as your monthly bills, do not contribute to this total, however. Here are the most common expenses you may encounter:
- Credit card debt
- Car loan
- Student loans
To help you visualize how to calculate your net worth, consider the following example:
|Cash (including checking and savings)
|Credit card debt
Net worth: $5,055,186
Using Your Net Worth as a Benchmark
Many people use their net worth (or what they hope it will be) as a benchmark of success or a measuring stick to see how close they are to their goal. For instance, one might set a net worth goal for retirement. In such a scenario, you will often determine your current value, and then determine (usually with an advisor) how much you need to save and invest to reach your goal.
It’s crucial to remember that a healthy net worth is relative to everyone’s circumstances and goals. Many people start in the red in their 20s due to student loans, car payments, and the like. What’s important is that you’re on track toward your goals.
Even so, you should be aware of where you are in comparison to other Americans. This can help you determine if you need to make changes to your net worth building strategies, as well as give you a perspective of your economic positioning. The table below illustrates the median net worth for each age bracket according to the U.S. Federal Reserve’s 2022 Survey of Consumer Finances:
|Median Net Worth
|Younger than 35
|35 to 44
|45 to 54
|55 to 64
|65 to 74
|75 or older
Increasing Your Net Worth
When it comes to increasing our net worth, you’ve probably heard the phrase, “live below your means.” While budgeting is very important, what you do with the extra money you have on hand is a key decider in how you grow your net worth. In general, investing your money over a long period is how you can expect your value to increase.
Rather than simply tucking all of your hard-earned money in a savings account, allocating some of it to an investment account, such as a Roth IRA, can pay dividends for you later in life. This is because you’re able to take advantage of compound interest. With this in mind, here are strategies you can use to grow your net worth through investing:
- Max out retirement accounts. Retirement accounts, such as 401(k)s and IRAs, are effective vehicles to help you build wealth. They allow you to invest within them so you can utilize compound interest. Additionally, they’re either tax-deferred or tax-free, depending on the account.
- Buy property. Real estate can greatly increase your net worth. The more you pay into a mortgage, the more equity you receive for the property. You can also use real estate as a means to earn passive income by renting it out to tenants.
- Invest for the long-term. It can be tempting to take risks in hopes of huge returns; however, buying and holding securities, such as ETFs and mutual funds, helps your portfolio grow steadily with the market over time.
- Pay attention to diversification. Investing can come with risk, especially if you allocate your funds in one type of asset, such as stocks. Diversifying your portfolio by buying a range of securities can help mitigate risk.
- Work with a financial advisor. Hiring a professional can help you avoid mistakes and build your portfolio in a way that makes the most sense for you. They can also assist you with creating a comprehensive financial plan, putting you on track for important goals such as retirement.
Frequently Asked Questions
What is liquid net worth?
Liquid net worth refers to the total value of assets you own which are liquid. In other words, cash, bank accounts, or investments that can easily be sold for money count toward this total. Other assets, such as your house or collectibles, are not part of this calculation.
What should my net worth be at 30?
This is relative to your personal goals and circumstances; however, the median net worth for Americans under 35 is $39,000. Another rule of thumb is that you’ll want approximately half your annual salary in a retirement or savings account, such as a Roth IRA. For example, if you make $70,000 per year, you should aim to have at least $35,000.
Does my 401(k) count toward my net worth?
The value of your 401(k) counts toward your net worth. This is because, no matter how liquid it is, it contains funds and investments you own. Other accounts, such as IRAs, also apply here.
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