In plain and simple terms, your Net Worth is the "net monetary value" of what you OWN and what you OWE.
The formula to calculate Net Worth is pretty simple and straighforward.
Net Worth = Assets - Liabilities
where
- Assets are your possessions
- Liabilities are your obligations
If your assets exceed the liabilities, you have a +ve Net Worth.
And when your liabilities are more than your assets, your Net Worth becomes -ve.
Wait:
The definition of Assets and Liabilities may look quite simple and straightforward.
However, in financial context there is catch — especially as far as your "assets" are concerned.
Let us look at the Liabilities first i.e. where you owe something to someone and hence a "pay-out" is involved. These will include your:
- Home loans, car loans, personal loans, etc.
- Credit card outstanding
- Moneys borrowed from friend / relatives
- Unpaid bills
- Any other financial commitments
As regards Assets i.e something you own, they should ideally be classified into two kinds viz.
Type 1: Assets that appreciate
In other words, they make money for you i.e. with such assets normally a "pay-in" is involved. For example,
- Bonds, Fixed Deposits, Bank balance, Cash
- PF / PPF/ Superannuation / Gratuity
- Property
- Gold, Silver
- Mutual Funds, Shares
- Life Insurance Policies
- Moneys lent
Type 2: Assets that depreciate and need maintenance
In other words, they lose value with time. Plus, you need money to use and maintain them i.e. despite being assets a "pay-out" is involved. For example,
- Car / Two-wheeler
- Smartphones
- Electronic gadgets and Consumer Non-durables
- Designer dresses
So now that you know how to compute your "real" financial Net Worth, work out whether you are in the plus; or are living dangerously.
AN IMPORTANT SUGGESTION
Most people include the Type 2 assets also in their Net Worth. But, due to usage, depreciation and maintenance, these assets result in "outflow" of money and decrease your Net Worth. Therefore, from financial perspective, do not include such assets in your Net Worth calculations.
Also, in percentage terms the outflow on account of these assets is generally small as compared to the normal Liabilities. So, you need not include them in your Liabilities too.
In short, just ignore them when calculating your Net Worth. (In fact, I would go to the extent of saying that you SHOULD NOT include even your primary residence in your Net Worth, since a roof over one's head a fundamental need.)
This, by the way, is the first step towards becoming rich and prosperous.
It reveals your true financial position — and identifies the critical areas that you must address to become a crorepati... without banking on Shri Amitabh Bachchan's Kaun Banega Crorepati.
There is no big secret or a hidden formula involved here. And, I am sure many of you would have already spotted the chinks in your financial armour.
However, for your convenience, I am enumerating below the top 10 ways to ensure that your Net Worth soars day by day... without, of course, compromising too much on the fun factor.
Given that the formula has only two elements viz. Assets and Liabilities, you have only two broad categories of action to take.
(a) Increase the Assets
1. Logically you must accumulate the Type 1 assets as they result in inflow of money and hence add to your Net Worth. As such, you must generate surplus money from your income and keep buying Type 1 assets month after month, year after year.
2. Within the Type 1 assets also, you have to own more of those that deliver higher money inflow vis-a-vis those offering meagre returns. (For distinction between the Wealth Creators and Wealth Preservers, read one of my old blog posts 'Four outcomes of any financial decision').
3. Though Type 2 assets (i.e. consumption assets) drain money, they are the very reason why we earn money. What's the point in having tons of money, if we don't get to spend it? Hence, to say that we shouldn't buy Type 2 assets, would defeat the very purpose. The only word of caution is... moderation. Be prudent with your purchases and you can enjoy the best of both the worlds.
4. [EXTREMELY IMPORTANT] Ideally, acquire the Type 2 assets, not from your primary income, but from the secondary income that your Type 1 assets generate. While, this would have some impact on the compounding, at least the basic accrual to your Net Worth is neither disturbed nor diluted.
5. The biggest asset, of course, is your mastery over your personal finances. If you can control your money... perfectly, you can achieve the maximum punch with minimum resources. So don't let go of any opportunity to enhance your financial knowledge.
(b) Reduce the Liabilities
6. Exorbitant interest rates on credit card and personal loans rapidly deplete your Net Worth. This damage is pretty sharp and swift. Hence, the sooner you get rid of them the better it is.
7. Vehicles depreciate. So it makes ample sense to keep your vehicle loans to a minimum. You can't afford to pay out too much interest for a depreciating asset, and simultaneously realize your millionaire aspirations.
8. Contrary to the statement 'reduce your liabilities', you can augment your home loans. More often than not, the appreciation in property prices generates more cash than the interest outflow. This benefit is further boosted by the tax benefits on such loans. So on a net-net basis, there is addition to your Net Worth.
9. Lenders have all kinds of tricks up their sleeves, to extract the maximum from you. In today's world, when bankers have lost all trust, you cannot afford to be an ignorant borrower. Therefore, by being astute with your 'money fundas' you can ensure minimal costs on your loans.
10. And finally, you have many ways to legally slash your tax outgo on your Income and Investments. (Caution: Choose your tax-saving products with extreme care. Else, you may lose much more in returns, than what you save in taxes.)
The formula to calculate Net Worth is pretty simple and straighforward.
Net Worth = Assets - Liabilities
where
- Assets are your possessions
- Liabilities are your obligations
If your assets exceed the liabilities, you have a +ve Net Worth.
And when your liabilities are more than your assets, your Net Worth becomes -ve.
Wait:
The definition of Assets and Liabilities may look quite simple and straightforward.
However, in financial context there is catch — especially as far as your "assets" are concerned.
Let us look at the Liabilities first i.e. where you owe something to someone and hence a "pay-out" is involved. These will include your:
- Home loans, car loans, personal loans, etc.
- Credit card outstanding
- Moneys borrowed from friend / relatives
- Unpaid bills
- Any other financial commitments
As regards Assets i.e something you own, they should ideally be classified into two kinds viz.
Type 1: Assets that appreciate
In other words, they make money for you i.e. with such assets normally a "pay-in" is involved. For example,
- Bonds, Fixed Deposits, Bank balance, Cash
- PF / PPF/ Superannuation / Gratuity
- Property
- Gold, Silver
- Mutual Funds, Shares
- Life Insurance Policies
- Moneys lent
Type 2: Assets that depreciate and need maintenance
In other words, they lose value with time. Plus, you need money to use and maintain them i.e. despite being assets a "pay-out" is involved. For example,
- Car / Two-wheeler
- Smartphones
- Electronic gadgets and Consumer Non-durables
- Designer dresses
So now that you know how to compute your "real" financial Net Worth, work out whether you are in the plus; or are living dangerously.
AN IMPORTANT SUGGESTION
Most people include the Type 2 assets also in their Net Worth. But, due to usage, depreciation and maintenance, these assets result in "outflow" of money and decrease your Net Worth. Therefore, from financial perspective, do not include such assets in your Net Worth calculations.
Also, in percentage terms the outflow on account of these assets is generally small as compared to the normal Liabilities. So, you need not include them in your Liabilities too.
In short, just ignore them when calculating your Net Worth. (In fact, I would go to the extent of saying that you SHOULD NOT include even your primary residence in your Net Worth, since a roof over one's head a fundamental need.)
This, by the way, is the first step towards becoming rich and prosperous.
It reveals your true financial position — and identifies the critical areas that you must address to become a crorepati... without banking on Shri Amitabh Bachchan's Kaun Banega Crorepati.
There is no big secret or a hidden formula involved here. And, I am sure many of you would have already spotted the chinks in your financial armour.
However, for your convenience, I am enumerating below the top 10 ways to ensure that your Net Worth soars day by day... without, of course, compromising too much on the fun factor.
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| Understand the true meaning of NET WORTH and make it grow ENORMOUSLY. |
Given that the formula has only two elements viz. Assets and Liabilities, you have only two broad categories of action to take.
(a) Increase the Assets
1. Logically you must accumulate the Type 1 assets as they result in inflow of money and hence add to your Net Worth. As such, you must generate surplus money from your income and keep buying Type 1 assets month after month, year after year.
2. Within the Type 1 assets also, you have to own more of those that deliver higher money inflow vis-a-vis those offering meagre returns. (For distinction between the Wealth Creators and Wealth Preservers, read one of my old blog posts 'Four outcomes of any financial decision').
3. Though Type 2 assets (i.e. consumption assets) drain money, they are the very reason why we earn money. What's the point in having tons of money, if we don't get to spend it? Hence, to say that we shouldn't buy Type 2 assets, would defeat the very purpose. The only word of caution is... moderation. Be prudent with your purchases and you can enjoy the best of both the worlds.
4. [EXTREMELY IMPORTANT] Ideally, acquire the Type 2 assets, not from your primary income, but from the secondary income that your Type 1 assets generate. While, this would have some impact on the compounding, at least the basic accrual to your Net Worth is neither disturbed nor diluted.
5. The biggest asset, of course, is your mastery over your personal finances. If you can control your money... perfectly, you can achieve the maximum punch with minimum resources. So don't let go of any opportunity to enhance your financial knowledge.
(b) Reduce the Liabilities
6. Exorbitant interest rates on credit card and personal loans rapidly deplete your Net Worth. This damage is pretty sharp and swift. Hence, the sooner you get rid of them the better it is.
7. Vehicles depreciate. So it makes ample sense to keep your vehicle loans to a minimum. You can't afford to pay out too much interest for a depreciating asset, and simultaneously realize your millionaire aspirations.
8. Contrary to the statement 'reduce your liabilities', you can augment your home loans. More often than not, the appreciation in property prices generates more cash than the interest outflow. This benefit is further boosted by the tax benefits on such loans. So on a net-net basis, there is addition to your Net Worth.
9. Lenders have all kinds of tricks up their sleeves, to extract the maximum from you. In today's world, when bankers have lost all trust, you cannot afford to be an ignorant borrower. Therefore, by being astute with your 'money fundas' you can ensure minimal costs on your loans.
10. And finally, you have many ways to legally slash your tax outgo on your Income and Investments. (Caution: Choose your tax-saving products with extreme care. Else, you may lose much more in returns, than what you save in taxes.)
