There are many different numbers that we track in our financial journey. However, one of the most straightforward metrics for success is our net worth. Our net worth is a way to measure our current financial situation and understand our overall financial health. If you are not satisfied with your current net worth, there are several steps that you can take today to increase your net worth and reach your financial goals.
What is Net Worth?
In simple terms, net worth is total assets minus liabilities.
Mathematically, it would be calculated by: Assets – Liabilities = Net Worth
Assets are anything we own, such as stocks, real estate, bonds, and collectibles. Liabilities are anything that we owe, such as student loans, credit card debt, and mortgages. The difference between these two is our net worth.
Understanding our net worth and the numbers behind it will be key in helping us build wealth and achieve financial success.
Is Net Worth Important?
Most people do not bother to calculate their net worth or fail to calculate it accurately. However, there are many benefits to knowing what your net worth is.
Calculating your net worth is one of the most accurate ways to measure your wealth. This process helps you better understand your assets and liabilities, which allows you to see your broader financial picture. Some people only measure their assets when calculating their net worth, which will paint an inaccurate picture of their finances. If your liabilities are significant compared to your assets, this calculation will put your debt into a more realistic perspective. Sometimes, people may be surprised to find out that their net worth is negative because of their liabilities.
By tracking your net worth, you can also see how you are doing financially in the long term. If your net worth is unchanged or decreasing each year, you may want to look for a way to increase your income or decrease your debt to raise your net worth. Growing your net worth over time is a way to measure your progress and improve your financial situation. Additionally, lenders will also look at your net worth to decide whether they should approve you for a loan, so being mindful of your net worth will make you more likely to get the loans you want.
How to Calculate Your Net Worth
To measure your net worth, you need to know the value of all your assets and liabilities.
Examples of Assets
Liquid Assets – Liquid assets are anything that can be converted to cash easily and quickly without losing value. That includes cash on hand, cash in your checking and savings account, money market funds, and Treasury bonds.
Retirement Accounts – This includes employer-sponsored accounts, such as the 401(k) and 403B plans, as well as personal accounts, such as Traditional IRAs, Roth IRAs, or 401(k)s you open on your own. Usually, these accounts have tax advantages and are accessible at age 59 1/2 in the U.S.
Investments in Taxable Accounts – These assets include things like stocks, index funds, mutual funds, exchange-traded funds (ETFs), bonds, and cryptocurrency. When you sell these securities, you will have to pay either short-term or long-term capital gains on them based on the length of time you hold the assets.
Real Estate – Real estate includes properties we own, such as our primary residence, rental properties, vacation homes, commercial properties, etc. When you calculate the value of your properties, make sure to use current market prices, which can get found on sites like Zillow or Redfin, and not the price you paid for them. The real estate market constantly fluctuates, so checking the current market prices will give you a more accurate number.
Business Assets – If you are a business owner, you may want to include assets you use exclusively for business purposes. That can include intellectual property, equipment, vehicles, receivables, and inventory. These assets typically get listed at the historical value in your balance sheet, but that may not reflect their current market value.
Art and Collectibles – That includes fine art, rare coins, jewelry, classic and exotic cars, antiques, timepieces, NFTs, sports collectibles, Pokemon cards, and more. The market rates for arts and collectibles are constantly changing, so be sure to talk to the appropriate appraiser to gauge their value.
Examples of Liabilities
Mortgages – Mortgages are loans that get used to purchase real estate, such as your house. When calculating net worth, you need to include any mortgages you have on your properties as part of your liabilities rather than just factoring in the value of your properties as assets.
Credit Cards Debt – You should check your credit card debt regularly as some credit cards can have average annual percentage rates (APRs) of 14.82% to 24.66%. That is a hefty price to pay for carrying debt, so it is best to avoid these high-interest charges by not rolling over balances on your credit cards month to month.
Student Loans Debt – Based on 2020 statistics by Investopedia, 54% of students take on debt to pay for their education, with the average borrower racking up $37,584 in student loans. That amount can be significant for many people. Thus, knowing how much student loans debt you have and the interest rates on them will help with creating the best plan to pay them off.
Installment Plans – These plans include arrangements, such as car loans, “buy now, pay later” apps, and any recurring installment payments. Tracking all the different installment plans you have could help you cut back on unnecessary spending and give you a clear picture of where your money is going every month.
Business Loans – If you have a business, the loans you take out for your business are likely a personal liability, so they should get included in your net worth.
How to Effectively Increase Your Net Worth
The simplest way to increase your net worth is to spend less than you make and invest your money in assets that appreciate over time. Below are a few ways you can accomplish this. While not every tip may apply to you, hopefully, you will find a few options that work for you.
1. Cut Down on Spending
The easiest way to increase your net worth is to cut down on your expenses. If you have any recurring expenses, such as subscriptions or memberships, that you do not use enough to justify the costs, you may want to cut some of them out. If you find yourself constantly dining out, buying the latest tech gadgets, or making impulse purchases, consider keeping track of all these spending habits to identify where you are spending the most money.
From personal experience, I used to regularly make impulse purchases, such as drinking $5 cups of coffee every day, going online shopping for no reason, and buying sales items I didn’t need. I also used to dine out often because I did not feel like cooking or buying groceries. After getting more serious about my spending habits, I started depositing money into my investment accounts the second I got my paychecks to set my expectations of how much discretionary money I have to spend.
If you are financing many of your expenses with your credit cards and are struggling to pay them off on time, that gives you more reason to keep track of them due to the high-interest rates. While these expenses may seem insignificant at the time of purchase, they can surprise you over time. The goal here is not to deprive yourself of hobbies or things you enjoy but to be aware of where all your money is going and make adjustments where you see fit. Now that I have stopped buying coffee every day or shopping all the time and started investing more seriously, I feel a lot better about myself and my financial future. Even a few dollars saved each week can go a long way.
2. Create a Budget and Track Your Spending
Having a budget can force you to stay on top of your long-term financial goals and not spend money you do not have. As consumers, the ease of access to credit cards and “buy now, pay later” apps such as Afterpay enable us to constantly overspend.
By setting a weekly or monthly budget, we get forced to map out our financial goals and keep track of where all our money is going. You will have the opportunity to reevaluate your spending habits and cut out any bad spending habits you have. Sticking to your budget may be painful at times, but ultimately it will help you stay on the right path towards any personal goals you may have, such as saving for the down payment of a house or buying a car.
Free apps you can use to create your budget are Mint and Personal Capital. For example, I use Mint to create a monthly budget of how much I can spend in each category and try to stick to the budget as much as possible.
3 . Pay Off Bad Debt
When you take out loans, usually, you have to repay the principal plus interest. Understanding what the debt is for and how much interest you owe will help you figure out how to prioritize what types of debt to pay off first. When you take out a mortgage to purchase your home or other real estate properties, that is generally considered good debt because of the low interest rate, appreciating value, the potential for cash flow, and the freedom of having a place to live.
On the other hand, credit card debt to fund unaffordable cars, clothes, or other consumables is considered bad debt because of the high interest rates and the depreciating value of the assets. As a rule of thumb, eliminating any bad debt should be your biggest priority because they are costly and can drag down your financial situation.
4. Take Advantage of Employer Benefits
Most employers these days provide competitive benefits that employees can leverage to their advantage. For example, many employers make matching contributions to their employees’ 401(k)s up to a certain percentage, which is free money for the employees if they choose to contribute.
Other benefits that companies may provide include commuter contributions, free meals and snacks, gym and fitness stipends, tuition reimbursement, relaxation stations, and discount programs. At my previous company, I took advantage of free meals, snacks, and beverages. If these are things that you pay out of pocket for, you can save money by opting in on whatever your company is offering instead.
5. Max Out Retirement Contributions
Most retirement accounts come with tax benefits. By not setting money aside for these accounts, you are effectively leaving money on the table. For example, when you contribute to your 401(k), the money is taken out of your paycheck pre-tax, which means that you end up paying less tax upfront.
When you contribute to a Roth IRA, you do not have to pay taxes on any future gains you make in that account. As mentioned above, many employers also make matching contributions to 401(k) plans, so investing at least up to the maximum matching contribution will help you grow your money faster. Because my current company does not have a matching contribution program for 401(k)s, I only invest about 5% of my paychecks towards my 401(k) right now. However, I am a huge fan of the Roth IRA and have maxed out my account every year since I opened it.
6. Set Aside an Emergency Fund
An emergency fund is money that you set aside to cover any unexpected events in your life. If something unfortunate happens to you, such as the loss of a job or a medical emergency, having an emergency fund allows you to minimize the financial impact it may have on you. It also ensures that you will not get forced to take on expensive debt or scramble to find the money.
Many financial experts recommend setting aside an emergency fund that can cover 3 to 6 months of your monthly expenses. However, deciding how much to set aside should be based on your preferences and income level. While the end goal for your emergency fund may seem overwhelming at first glance, an easy way to start is to set aside a bit of every paycheck. Currently, I set aside roughly 10% of every paycheck towards my emergency fund, but the amount you set is ultimately up to you and your financial situation. If 10% is difficult, consider setting even $20 aside to get started.
7. Increase Your Income
Sometimes, the quickest way to increase your income is to ask for a raise or look for another job. If you choose to ask for a raise, make sure to have a game plan. Research how much the average salary for your role is, the average promotion rates at your company, and ways you can improve your value to your company to justify the raise.
If you feel undervalued at your company and a raise is out of the picture, an alternative is to look for a position at another company willing to pay you at the rate you deserve. For many people, the easiest way to increase their income is to switch companies. However, consider all aspects of the roles and companies when comparing offers to find the right fit for you.
8. Develop Multiple Sources of Income
Expand beyond your regular paychecks for your income. Side hustles and personal businesses are a great way to develop multiple sources of income. If you want to make extra money on the side, consider working as an independent contractor for companies like Uber, Lyft, Fiverr, or Upwork.
If you have a specific set of skillsets that you can leverage outside of work, consider consulting on the side. If you have a solid business idea and the skills to manage a business, save up some money to take your business off the ground. By spreading your income across multiple sources, you minimize the impact of losing one income source.
9. Make Your Money Work for You
The goal is to make money while you sleep. For many people, that gets accomplished through developing passive income streams. There are several ways you can do this. You could invest in REITs (Real Estate Investment Trusts), which allow you to invest in real estate without a large upfront down payment or experience managing properties. You could open a high-yield savings account, which pays you interest just for having money in your account. You could invest in dividend stocks, which typically have quarterly dividend payouts. If you own multiple properties or do not mind having roommates, consider house hacking or renting out your units to tenants.
Most products have referral programs to incentivize users to spread the word, so you have a strong following on social media or have a lot of friends and family, they can be an easy way to make money. If you run websites, you could use affiliate marketing to generate revenue. These examples are not an exhaustive list. There are many options you can explore to expand your income sources and make your money work for you.
10. Compound Interest
Compound interest refers to the interest you earn on interest received. This cycle allows you to multiply your money at a rapid rate.
For example, let’s say you have $1,000 and decide to invest that in an account that gives you 10% interest each year. At the end of the year, you will have $1,100. The following year, you will earn $110 in interest instead of just $100, so you end up with $1,210. And so on, until the original amount you put in is eclipsed by the interest you earn.
Underlying the idea of compound interest is the concept of the time value of money. The earlier you invest your money, the faster and larger it will grow in the future. By postponing when you invest, your opportunity cost, or loss of possible gains, increases.
Suppose an investor invested a lump sum of $10,000 into the stock market. You can see, as the years pass, their money grows exponentially over time. That is the power of compound interest. However, investments have different risk levels and returns. Weigh the benefits and costs of the various investments carefully to ensure you find a balance that works for you.
The Bottom Line
Increasing your net worth requires a holistic approach to your finances. You need to create a strategy that encompasses all aspects of your finances, not just one or two areas. By accounting for everything in your personal finance, you can ensure all the different moving parts in your financial strategy are going as planned. Achieving a higher net worth takes time and effort, but if you stay patient and stick to your plan, you can accomplish amazing things.