What is net worth?

It’s time to find out the real meaning of total net worth! This term refers to the assets that belong to an individual or a legal entity, with the obligatory deduction of the funds that they owe to the creditor. This parameter is essential both in assessing the financial performance of a company and the current financial situation of an individual.

What does net worth mean? This article will provide an overview of net worth in detail, describe the types of net worth, and, of course, why it is worth tracking.

The essence of net worth 

Comparing net worth vs income and assuming they are the same thing is a common mistake. Net worth is a parameter that can be evaluated by subtracting liabilities from assets. What are assets and liabilities?

An asset is anything a person owns, which has a monetary value;

A liability includes all potential issues that can deplete a resource (for instance, mortgage, loans and debts of all types, etc.).

Remember that this indicator can be negative (when liability > asset) or positive (asset > liability). So, a decrease in net worth should cause concern, while its increase is a sign of an excellent financial situation.

Meaning of net worth for business

If you`re interested in what does net worth include in business, please note that this indicator consists of the difference between the value of a company’s total assets and its liabilities. As a rule, before granting a loan in any form, the lender carefully studies a company’s or an individual’s net worth. A positive value is a sign of financial success and a guarantee that the loan will be returned.

Thus, a comprehension of what’s net worth and an understanding of how to manage it will allow you to generate stable profits and increase the value of company shares. Are stocks part of net worth? Surely, they are considered an asset.

Its meaning for individual finances

What is net worth in personal finances? Well, the formula is the same – just subtract net liabilities from net assets. That is, if a person has real estate, a car, checking accounts, retirement savings, or securities — all of these are considered assets. However, mortgage, personal debts, student or automobile loans, as well as a negative bank card balance are liabilities.

To learn how net worth is calculated and how it can acquire a positive value is not complicated. There are two possible ways — either to increase assets (start earning more, save funds, invest them to get an additional income) or to reduce liabilities (pay off part of your debts).

Why monitor net worth?

If you`re still in doubt about why is it important to track your net worth, let’s discuss is in a little more detail:

First of all, when you see clear trends in the financial report, you can rationally analyze the situation and predict future possibilities more realistically.

Secondly, understanding what’s included in net worth and how to manage capital allows you to spend wisely & save more efficiently for large purchases or investments.

Thus, if you consistently monitor your current net worth, you can stop accumulating debts or buying absolutely unnecessary things, investing in more useful ones. In addition, tracking this parameter can motivate you to continue to accumulate funds — who does not like to watch how the asset increases and the liability decreases?

And we have already discussed the significance of monitoring the net worth of a business. Unless the company shows assets that exceed liabilities or this parameter is at least neutral, then the lender is unlikely to approve a business loan.

How to calculate net worth

Calculating net worth is not difficult. All you have to do is understand the value of your liabilities and assets. Then, you use a simple formula to calculate it.

The formula is:

Net Worth = Total Assets – Total Liabilities

It can be a bit troublesome to understand how much your assets are worth. For instance, if you purchased a vehicle for a particular price and you used it, some value was instantly lost. The value may decrease more and more if you keep using the car without taking care of it. The resale value of the car may also be lower than how much you owe for it. This would make your assets a liability.

Also, asset values tend to change a lot. This even applies to your house. Based on comparable market values, your home’s value might change as well.

Before you calculate net worth, you should understand that most liabilities are not static, but dynamic. Therefore, the net worth calculation is only an idea of your current situation. This is why you should keep track of your net worth as time goes by if you want to understand it well.

Negative net worth

Sometimes, when someone calculates their net worth, they get a negative result. Negative net worth arises when you have more total debt compared to total assets.

When a negative net worth results from your calculations, it shows that you or your family must pay attention to your debt and work on debt or energy reduction. Different things can help, such as negotiations with creditors among others.

If you have a negative net worth, you’re not alone. Many people end up in this situation due to student loans or unexpected illnesses. Some people file for bankruptcy protection to get rid of some debt and make sure creditors do not attempt to collect on it. At the same time, there are liabilities like taxes, alimony, child support, and even student loans, which cannot be discharged – not to mention that bankruptcy will remain on the credit report for a long time.

Average net worth examples

Average net worth differs by age group. For the American household, the average net worth was $748,800 in 2019. Here’s the average net worth based on age groups:

·  Under 35 – $76,300

·  35-44 – $436,200

·  45-54 – $833,200

·  55-64 – $1,175,900

·  65-74 – $1,217,700

·  75+ – $977,600

The average net worth can be influenced by different high-dollar outliers. For instance, in an American household, the median net worth was around $121,700.

Bear in mind that your net worth doesn’t reflect your personal value and doesn’t necessarily show bad financial habits.

Some final thoughts

As you can see, calculating net worth is not difficult if you have a clear understanding of your assets and liabilities. This parameter is crucial for both individuals and legal entities. Calculation for individuals can be carried out independently using online applications. But the calculation for a company may require the help of experts who will take into account all the details and suggest ways to improve the situation, should the need be.