Ronstar
Moderator Emeritus
Net worth is assets minus liabilities. Every business balance sheet I've ever seen does it this way. But I understand that individuals want to keep track of their investable assets, but this is not net worth.
Passing acctng classes, hiring and firing cpa's are easy. Getting people to think outside of the box is what seems the most difficult. Justa sayin
Since I'm sure there will be a rukus as to why SS and pensions are not included, let me explain - since benefits are generally subject to someone being alive at the time the benefit is received (or thereabouts) there is uncertainty as to whether the benefit will be received so life contingent benefits are technically contingent assets and are not recognized. The resolution of the contingency (the beneficiary being alive is an event that results in recognition of the asset - a receivable for that months payment if applicable).
Net worth is assets minus liabilities. Every business balance sheet I've ever seen does it this way. But I understand that individuals want to keep track of their investable assets, but this is not net worth.
I agree that gaap are accepted, but generally only by accountants. This board has equally talented people who have carved out unique ways to re. Recognition of those different methods that could enhance what we all knew as nw, might just allow us to grow past this discussion. Accountants come up with their gaap's without much strain, seems we could come up with our own terms.
This board has taken "FIRE" and used that acronym to denote our particular goals and circumstances.
What would be wrong having our own term that reflects the total worth of individuals?
That is not a bad idea, but the term could not be "net worth". It would need to be developed by a subgroup following member consultation, and the definition would have to be very precise.
I think herein is the answer to the root cause of the confusion and hence our discussion.There's a difference between net worth and cash flow, and the two are often detached as we all know. Most people have both a stash and SS and/or pension. Nowadays, with pension going away and this forum being about ER, many of us have to rely on the stash to tide over till SS kicks in.
I appreciate your comments about public comment periods. I did say "generally" only accepted by accountants.
In the late 80's, in a junior position, I wrote definitions for governments. Public comment periods were an important component of that process.
Actually, there is a movement today to lengthen comment periods, to reduce the quick adoption of concepts that affect us all.
Some of the definitions that I wrote and sheperded thru the processes still stand and some were modified over the years. If enlightened thinking arises, then definitions need to be modified.
This board has taken "FIRE" and used that acronym to denote our particular goals and circumstances.
What would be wrong having our own term that reflects the total worth of individuals?
IMO it is important that there be a consistent framework as to what is included in net worth and what is not. Pensions or SS that are not recognized as assets could certainly be disclosed (in a manner similar to the disclosure of contingent liabilities in the link in post #3) even though they are not recognized so users can consider those cash flows in making decisions.
Net Worth is a calculation, assets minus liabilities. Net Worth is not retirement planning. Retirement planning includes essential and discretionary expenses, income streams such as pensions and Social Security, and any available nest egg or asset to draw from.
I use the simple, straight-forward definition of assets minus liabilities. The "what would your heirs receive if you died today" definition is almost as simple, although that brings things like estate taxes, life insurance and survivor benefits into the picture, which I exclude.
I agree with you regarding the definition of Net worth. The questions then become: Are Social Security and Pensions considered assets? How does one value them?
NPV calculations are relatively simple. The problem is very few people know when they're going to sop collecting.
pb4uski... as a practical matter, I agree 100%. But from a conceptual standpoint, let me solicit your input on two specific scenarios:
1. A retiree has $1M in investments, which are included in NW, and which yield $40K per year income. Retiree sells all investments and purchases an SPIA, which also pays $40K per year income, and has no guaranteed period. Let's assume the retiree is a healthy 52 year-old, with an actuarial life expectancy of 33 years. And let's also acknowledge that SPIAs can be easily converted back to cash. Under SOP 82-1, this person's "financial position" just dropped by $1M. Are you in agreement that this accurately portrays the economic reality of the transaction?
2. SOP 82-1 excludes personal assets which have a contingency such as life expectancy. Yet accounting standards for corporate balance sheets allow recognition of certain contingent assets. Deferred tax assets, for example, represent the current value of future deductions, which are contingent upon the existence of future taxable profit. Are you in agreement that accounting standards should accept some contingencies and not others, even when they are equally probable?
I think any standard setter would be very reluctant to allow an asset that can go "poof" and disappear immediately like a life contingent annuity or any other life contingent asset. I would much rather defend the bizarre $1m decline in net worth in the example you created than defend recognizing an asset, having a creditor make a decision based on that asset and having the asset evaporate into thin air the next day because the annuitant dies. No prudent lender would make a loan based on such an "asset" without a corresponding life insurance policy on the annuitant so it seems sensible to me that an asset is not recognized.
Preparers can always use disclosure in such situations to let readers know of these life contingent benefits and users can make their own decisions as to how to factor them into investing and lending decisions.