Calculating your net worth

[retire@40]

Owner-occupied houses also fulfill other definitions of assets- something that can produce cash flows. It can be sold, rented, partially rented, or encumbered... all in various ways producing cash.

You must like it better when you say it. A few posts ago I said...

For ER purposes, my net worth calculation only accounts for assets that will give me a stream of income. Homes don't count unless you are going to sell it, rent it, do a reverse mortgage, or anything similar.

 

[sgeeeee]

If an asset is listed in the forest and nobody is there to see it, is it still an asset?

I can't imagine why anyone cares what someone else includes in their list of assets.  

Before you can answer the question, you need to state the purpose of computing your net worth.

 

[retire@40]

Before you can answer the question, you need to state the purpose of computing your net worth.

Exactly.  That why I said initially,

There are 2 kinds of net worth.  There is the classic kind that includes all assets, and there is the kind that only accounts for assets that produce revenue for you.

So, if you just want to know what your net worth is, then it's just Net worth=Total Assets - Total Liabilities.

If you want to know how much net worth you have to live off in retirement, you will need to subtract out those assets that will not provide an income stream for you.

 

[haha]

Show me a balance sheet that has a house listed under "Pre-paid Assets."

You are either really dense, or you really like to argue. Neither applies to me, so ta-ta.

Ha

 

[cute fuzzy bunny]

Show me a balance sheet that has a house listed under "Pre-paid Assets."

Easy. Mine.

Neeeext??

 

[Lazarus]

I calculate my net worth every year and keep a log. I simply add up everything and subtract what I owe. I don’t worry about the taxes. I use the value of the house, 401, savings, cars, ect. I fully understand that all my assets will not provide a cash flow. But some things are necessary to life. You either own a house or you rent. You have a car or walk. The main value of the net worth calculation to me is I can see how I am doing over time. I expect it to go up every year, and it has except for one. Never has went down. As long as I do it the same way every year it serves my purpose. When you start thinking in terms of net worth you make decisions that improve it rather than just spending randomly. (I buy what the TV tells me to.) Every major purchase will make you think what will this do to my net worth? I just wish I had figured this out when I was younger.
I consider tracking net worth critical to wealth building.

 

[robert]

I believe it is important to have a common methodology for calculating net worth.  Unfortunately, there doesn't seem to be a consensus on how it should be done.  As for myself, most of my assets are relatively liquid.  So, I keep a spread sheet with three columns.  The first is a total of all my accounts/assets without any adjustment for taxes.  I call this my "gross net worth" or my "assets under management."  In the second column I calculate net worth adjusting for taxes at a tax rate of 15 percent.  I assume it is realistic to assume that some of my accounts (such as my 401k) will be taxes at 15% after I retire and start withdrawing from them.  The third column is like the second, only I calculate net worth based on the assumption that taxes will take 28 percent (my current tax bracket).  There's roughly a 100k spread between the first column and the third column.  My retirement goal is to accumulate a net worth of $1M, using the most conservative estimate of net worth, i.e., the third column.  It may sound complicated, but it isn't --- the spread sheet does all the work.  It also gives my three different ways to look at my nest egg.  Frankly, I believe it is rather naive to calculate net worth without making any adjustments for taxes and any other costs that you will experience in order to convert you assets to dollars you can put in your wallet free of all encumbrances.

 

[Nords]

I believe it is important to have a common methodology for calculating net worth.

What is this, a competition? Do it any way that makes sense to you.

Unfortunately, there doesn't seem to be a consensus on how it should be done.

And that's why GAAP is such a big, complicated system.

 

[Mr._johngalt]

I believe it is important to have a common methodology for calculating net worth.  Unfortunately, there doesn't seem to be a consensus on how it should be done.  As for myself, most of my assets are relatively liquid.  So, I keep a spread sheet with three columns.  The first is a total of all my accounts/assets without any adjustment for taxes.  I call this my "gross net worth" or my "assets under management."  In the second column I calculate net worth adjusting for taxes at a tax rate of 15 percent.  I assume it is realistic to assume that some of my accounts (such as my 401k) will be taxes at 15% after I retire and start withdrawing from them.  The third column is like the second, only I calculate net worth based on the assumption that taxes will take 28 percent (my current tax bracket).  There's roughly a 100k spread between the first column and the third column.  My retirement goal is to accumulate a net worth of $1M, using the most conservative estimate of net worth, i.e., the third column.  It may sound complicated, but it isn't --- the spread sheet does all the work.  It also gives my three different ways to look at my nest egg.  Frankly, I believe it is rather naive to calculate net worth without making any adjustments for taxes and any other costs that you will experience in order to convert you assets to dollars you can put in your wallet free of all encumbrances.

Net worth is a moment in time. Future events (taxes, inflation, etc)
need not be considered. To be clear, you must take these future
(unknown) events into account, but they are not necessary to
figure net worth. Remember it as "a slice in time". That's the way
accountants view it.

JG

 

[retire@40]

Net worth is a moment in time.  Future events (taxes, inflation, etc)
need not be considered.  To be clear, you must take these future
(unknown) events into account, but they are not necessary to
figure net worth.  Remember it as "a slice in time".  That's the way
accountants view it.

So accountants don't use future events like deferred taxes on an accrual-basis balance sheet to determine net worth in accordance with FASB 109?

 

[retire@40]

Easy.  Mine.

Neeeext??

Then you put it in the wrong place, my friend.  Your home is not a prepaid asset.  On the balance sheet it goes in the "Real Estate" or "Fixed Asset" category.  An example of a prepaid asset would be your car insurance that you prepay for the year instead of paying it on a monthly basis.

 

[cute fuzzy bunny]

Oh jeeze louise dude, give it up.

You're a noodge.

 

[sgeeeee]

I've included my Myers-Briggs personality test score, my feelings about peaches, and the hole in my left ear (for an earring) as assets in my net worth calculation. And there's nothing any of you can do about it.

 

[Nords]

I've included my Myers-Briggs personality test score...

Asset or liability?

 

[Mr._johngalt]

So accountants don't use future events like deferred taxes on an accrual-basis balance sheet to determine net worth in accordance with FASB 109?

Picky picky FASB? We don't need no stiiiinking FASB.

JG

 

[laurence]

Where does my daughter fit into my net worth? It's certainly included!

I'm not looking to become a CPA, my net worth calculations can definitely be done on the back of an envelope.

 

[Jarhead*]

My assets are a reasonably good golf swing.

My liabilities are my wife's refusal to get a job to take care of escalating green fees.

 

[BigMoneyJim]

Just to throw some more wrenches in the works that have been mentioned in previous net worth threads:

One must decide if/how to:
- Value future SS benefits
- Value future vested defined benefit pension benefits
- Account for tax penalty if pretax assets are tapped early
- Account for variable tax rate if pretax assets are withdrawn in bulk or over time


There's plenty more. I think the question to ask is why you're calculating net worth. That answer should probably guide your answer to the rest of the questions. e.g. if you want to compare net worth with peers then try to use the same method they use..

 

[Nords]

That answer should probably guide your answer to the rest of the questions. e.g. if you want to compare net worth with peers then try to use the same method they use.

What's the point of comparing net worths with others? Testosterone poisoning?

Even if you're tracking your own net worth enroute ER, what are you going to do if your progress is too slow? (No one complains about a meteoric rise in net worth.) Did you really remain unaware of a "problem" until your net worth statement started flashing warning lights? How do you distinguish a "net worth decline" from normal asset volatility? Shouldn't ER-trashing problems be more easily detected in your credit-card statement or monthly spending?

And even if your net worth isn't rising as fast as you think it should be, what do you do about it? Aren't you already doing as much to reduce spending & raise savings as you feel is reasonable? Would you get a second job? Sell your house before it declines further in value? Get rid of a car? Lay off a kid or two?

I remember the board uproar over TMND's "formula" for accumulated wealth vs income. People felt intimidated, nay insulted, over a statistical relationship purporting to tell them how much they should be worth for a certain income level. So who cares how you build your balance sheet as long as you understand your cash flow statement?

This thread reminds me of the ongoing "debate" over whether the SWR should be 3.99% or 3.98%...

 

[justin]

When I posted my original questions, I didn't realize that there are many reasons for calculating one's net worth. For me, I am still young and in the very early stages of my accumulation period. My net worth is not close to being sufficient to ER. I look at my net worth as a measuring stick to see how much I have grown financially each quarter and each year. My goal is to maximize net worth. I seek to do this by optimizing the growth of my net worth through efficient management of debt and making good investment decisions. That is an abstract statement, but it reflects my view of how I intend to grow net worth.

Paying down debts (mortgage, student loans, etc.) increases the net worth on the balance sheet by reducing liabilities. Reducing debt also reduces the carrying costs for that debt, which leaves more money each month for investing.

Having said that, I can see why it is appropriate for some to list only the income generating assets on their balance sheets. This is the number you are plugging in to your FIRE calculator or ORP or whatever you use. I may take this approach as I get nearer to early retirement age as well.

I really didn't mean to make such a big deal out of the net worth calculation. For me it is just a back of the envelope calculation (done in a spreadsheet of course) that is quick and dirty. When using the figure, I have to take it for what it is.

I figured some here may have great insight into the issue, since there are a lot of great minds here. I think this discussion has opened my mind to a number of things to consider in my net worth calculations.

 

[cute fuzzy bunny]

About the only plausible use for net worth is to track how you're progressing. Therefore your net worth calc is your net worth calc. You can be consistent with it and it'll tell you as you go how much you think you have in assets and liabilities that you agree with. Or you can keep changing the metrics and get little from it.

Or you can argue what does and doesnt constitute an asset or liability with others, ad nauseum.

Certainly cant be used as a comparator unless everyone else does the same thing the same way. Good luck with that.

I think having looked at Money and Quicken, they both do the same thing...add up your house, your cars, your personal effects and the value you would get selling those is your asset lump. Take away any loans, credit card debt, etc and those are your liabilities. Subtract liabilities from assets, thats your net worth.

 

[BigMoneyJim]

What's the point of comparing net worths with others? Testosterone poisoning?

I started with another example (it was just an example), but it was getting too long-winded and specific. Personally I haven't been calculating net worth on a periodic basis, but when those "at age 35 you should be worth ..." articles pop up I'm curious what methodology they use. Sometimes I feel like I'm doing a great job financially, but other times (especially after hanging out here for a while) I feel hopelessly behind in my financial situation.

Shouldn't ER-trashing problems be more easily detected in your credit-card statement or monthly spending?

And even if your net worth isn't rising as fast as you think it should be, what do you do about it? Aren't you already doing as much to reduce spending & raise savings as you feel is reasonable? Would you get a second job? Sell your house before it declines further in value? Get rid of a car? Lay off a kid or two?

Now that he's said he's interested in tracking net worth for the purposes of ER I think the questions you posed are more applicable than what his net worth is.

I also agree that monthly expenses and debt statements are more important and useful to look at than net worth or asset returns. In my case--after paying off my debt--I'm still hunting for my comfort zone of saving versus spending and where to save (401(k) vs. after-tax). Last time I checked I'm 20 years from retirement with conservative return estimates and today's expenses (in today's dollars). That's too far to make sane plans for ER, so I'm focused on today. And I'm mindful that I may not live 20 more years or may not be healthy in 20 years, so I'm not going to sacrifice everything today for a distant utopian early R. (UER?)

 

[sgeeeee]

Regarding my personality score:

Asset or liability?

Yes.

 

[Lazarus]

I don’t think there is a generally accepted way to calculate net worth. I only do it to track how I am doing and I have used the same method for the last 10 years. I think it does help in making purchase decisions. For example cars. Does anyone think buying a $50,000 car will help their net worth? I have no problem with you buying one if you can afford it and understand what it is costing you. I myself cannot afford to. A much cheaper car will satisfy the transportation requirement and will dent your net worth a lot less. My goal is to acquire sufficient wealth to produce a cash flow that will enable me to live comfortably without working. Net worth is the keystone in that calculation. Of course there are many other factors involved in reaching FIRE, I don’t mean to over simplify. I don’t think many people on this board are figuring their net worth in order to see how much better they are than someone else. It’s about freedom. If I have enough, I have enough, no need to work longer to have more.

 

[haha]

For example cars. Does anyone think buying a $50,000 car will help their net worth? I have no problem with you buying one if you can afford it and understand what it is costing you.

What an amazingly tolerant person!!

Ha