Do you know your net worth?
Your net worth provides a benchmark by which you measure your progress towards your desired financial goal.
Any discussion on financial success and freedom cannot be complete without the concept of savings. This article introduces the concept of target worth, which provides an idea of what your net worth should be, or an average to aim for if you are saving 20% of your income.
Target worth is easily calculated based on your age, your monthly income and an average rate of return. When this is compared to your actual worth (obtained by examining your current financial position), these two numbers provide the mechanism that points you towards making solid financial decisions.
Before we get to why your net worth is very important, let’s first understand what this really means, and how it can easily be determined.
WHAT IS NET WORTH?
Your net worth shows your personal financial position. It is the amount by which your assets exceed your liabilities. To determine your net worth, simply take the difference between the amounts of items of value you own and the amounts that you owe to others.
Your assets include items of value you own such as cash, cars, real estate, stocks, bonds, notes, intellectual properties and more. Your liabilities are what you owe to others. These include things like: loans, credit purchases, mortgages, amount received in advance for a future delivery of services/products, credit card debts, car notes and any money owed in any form.
The difference between your assets and liabilities is your net worth. If your assets are greater than your liabilities, your net worth is positive. However, if your liabilities are greater than your assets, you have a negative net worth.
To achieve a high positive financial position, focus on increasing your assets and reducing your liabilities Share on X.
Determining Your Net Worth
Determining your net worth is easy! Simply use the formula:
Net worth = Assets – Liabilities
You will need to add up the values of all your assets and subtract the amount of all your liabilities. The difference is your net worth, which provides a snapshot of your financial position at that point in time.
Example
Assuming you own assets totaling $100,000, and all your debts amount to $20,000. Your net worth is positive and equal to $80,000 which is ($100,000 – $20,000). However, if your assets total $50,000 and you owe $60,000, it means you have a negative net worth of -$10,000 which is ($50,000 – $60,000).
Determine your net worth now using our signature Net Worth Calculator
Now that You Know Your Net worth, What Does the Number Mean?
These numbers are benchmarks! While positive and high net worth is a good thing, low net worth may not necessarily mean you have a bad financial habit. It may be a temporary situation at that point, but the number points you to where you should focus on for improvement.
Net worth values are also relative, and its meaning can vary depending on your age, your current income, and your lifestyle. It is therefore important to have a guideline, a kind of “target” value to aim for or compare with. The target worth as explained below, fills this role.
TARGET WORTH
The target worth takes a look at how long you have been working and your income, to calculate how much you should have saved over these years. Let’s look at the following assumptions behind the target worth amount:
- This is just a target number aimed to provide guidance. Your specific situation may vary.
- Typically, people graduate from college at age 22. At this age, you are basically breaking even and your net worth will likely be zero. Before age 22, you are typically dependent as a college student with federal student loans, loans from family/friends, or other forms of liabilities. However, after age 22, you will typically get employed and begin to earn some money.
- The recommended savings rate is at least 20% of your income, with the goal to keep improving and to progress to saving up to 50%. The recommended savings rate is at least 20% of your income
- As recommended, it is assumed that you put your savings into a savings account or into an investment vehicle that yields a return.
- Most people typically get paid monthly and so will typically save a percentage of their income every month rather than wait till the end of the year.
Determining Your Target Worth Amount
When you save or invest 20% of your monthly income at the end of every month, you will earn some interest or returns if you invest them. Based on the above assumptions, the target worth can be calculated as follows:
PMT [{(1+r)^n}/r – 1/r].
PMT = Payment, which is 20% of your monthly income
r = Interest rate substituted as r/12 since payment is made monthly and interest compounded monthly.
n = Number of periods, substituted as (Your age -22)*12 to show number of months you have worked till date.
Example
Using the above example of you owning assets totaling $100,000, and debts of $20,000, we calculated your net worth to be equal to $80,000 using the assets minus liabilities formula. This is your actual net worth. BUT is this what it should be? This is where target worth amount comes in.
Let us assume that you are 30 years old and you earn $5,000 monthly with an actual net worth of $80,000.
Your target worth (… as calculated and shown in the table below) is $117,741.
You can easily tell that while your target worth SHOULD be $117,741, you are only worth $80,000. You should immediately know at this point to revisit your priorities and take action to improve your financial situation. It may be that you are not saving up to 20% of your income or that you are incurring a lot of liabilities than you should.
The table below shows sample target worth amount calculated for ages 22-65 and monthly incomes of $5,000 to $20,000.
As seen from the table, if you are 35 years old making $8,000 a month, you must have saved $350,575 dollars for the 13 years of employment if you are saving only 20% of your income and earning 5% rate of return. However, if you are saving more than 20% of your income, your target worth amount will definitely be higher than as shown in the table.
What is your target worth amount? Instantly calculate your specific target worth now using our signature Net Worth Calculator
THE BOTTOM LINE – WHY IS THIS IMPORTANT?
It is important to perform assessment of your finances before you embark on that journey to financial freedom, set financial goal or even take any action. This is just like how the doctor would perform health assessment before treatment. Learn more about the 6 Steps to Achieving Financial Security – Our Signature AGALEC Approach.
Your net worth gives a snapshot of your financial position. Depending on your financial situation as determined by the value of your net worth, you will focus on increasing your assets or reducing your liabilities, or both! Your net worth will guide you towards saving more, spending wisely and paying down your debts; or saving more and investing to increase your assets.
The bottom line is that you have a number you watch continuously, which provides a measure of your progress towards financial freedom.
Do you know your net worth? Did you find this useful? I’d like to hear your thoughts on this; and please share this article and educate someone today.
This is simply amazing. I am particularly impressed with the simplicity of the interest rate compounding and the period calculations. Good job you are doing, please educate us some more.
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