Some say it's the most important number in personal finance. And net worth isn't just a term that applies to the rich and famous. It plays a key role in financial planning regardless of how much money you have in the bank.
"You want your net worth to increase over time, whether it's currently negative or positive," says Rogers Group certified financial planner Cecilia Tsang. "A person's net worth is basically the value of what you own — which are your assets — minus the value of what you owe, your liabilities.
"To determine your assets, you would add together your liquid assets — things that you own that can easily be exchanged into cash — as well as any fixed assets such as real-estate property," Tsang says.
Once you list your assets, it's a simple matter of subtracting your liabilities (such as outstanding mortgage, credit-card, and car-loan balances). Here's an example of someone going to university:
ASSETS (What I own)
Savings account $2,520
1987 Honda Accord $1,000
TOTAL ASSETS $3,520
LIABILITIES (What I owe)
Student Loan $7,000
MasterCard balance $80
TOTAL LIABILITIES $7,080
Net worth equals assets ($3,520) minus liabilities ($7,080). So this person's current net worth is -$3,560.
"As this person finishes school, finds work, saves money, and pays off her loans, her overall net worth is going to increase, first to zero, and then it will hopefully become positive and continue to grow over time," Tsang says.
A continual increase in net worth represents good financial health, while someone's net worth can be depleted if there's a significant drop in asset values compared to liabilities.
There are several on-line tools to determine your net worth. (Just Google "net worth calculator".)
Why does it matter?
Net worth might not seem that important if you're early in your career and having a family. But it's worth keeping an eye on your net worth as it will play a crucial role in your retirement. At some point, you'll need to draw on the various components of your net worth to cover living expenses. For instance, without an income you may need to sell your home and downsize.
Plus, life can throw curveballs — say you lose your job, become unable to work, or your house value plummets because of some unforeseeable circumstances. You want to know exactly where you're at with your net worth so that you're prepared for tough times.
To put net worth into practical use that will guide future financial decisions, keep these tips in mind:
Track it regularly
Consider using a tool such as NetworthIQ, which bills itself as a "social personal finance manager". It allows you to monitor and track your net worth in a non-intimidating way.
Update your net worth every year
Your net worth will fluctuate, and regular updates will help you keep on track with your financial goals. Consider it a financial checkup, just like going to the doctor for your annual visit.
There's always a temptation to see how you're doing compared with other people — consider the average household net worth in Canada was $363,202 in 2011 — but avoid obsessing over how your net worth stacks up next to others'. Focus on your own situation so you don't get sidetracked trying to keep up with the Joneses.
How can you boost your net worth?
"There are many ways to grow your net worth," Tsang says. "If you have debt, work on paying down your debt."
"Save for the long term, into Tax Free Savings Accounts as well as into RRSPs, which are both tax-sheltered," she adds. "The more you increase what you own and decrease what you simply have, the higher your net worth will be."
The best way to save or pay down your debts, Tsang notes, is to do so systematically and automatically.
"For example, direct $50 a month into your TFSAs…or have it automatically paid into your student loan. You won't miss having it taken out of your account because you wouldn't have seen it in the first place.
"As your income grows, increase your savings or debt payments according to the same proportion," she adds. "If you do this early on, you'll get into the habit of 'paying yourself first for later'."