Recently, while I was walking with my children around the neighborhood where I live, I’ve heard the following question: “Daddy, why don’t we have a car like this gentleman?” The “gentleman” was driving a beautiful, large, elegant car. The registration numbers indicated that this car belongs to bank. Of course, I started explaining to the children, that this man’s car belongs to a bank or a leasing company and in fact, it does not belong to him – he only uses it, and the Skoda we own is ours (because I have just paid off the loan taken on it). They acknowledged but were not convinced about the information about the other car owner. This story prompted me to write a post about, what we have and what our net worth actually is, what that actually means. So, how much wealth do I have and how much is my net worth. I will try to bring this topic closer in this post.
What is the value of your property and what is your net worth?
These concepts are similar but mean different. When you observe someone’s property, you usually only see the property, that is owned, or rather “displayed”. By observing your immediate environment or the media, it is easy to notice, that what we see is only property, that someone has at their disposal. We are delighted (or not), that elebrity owns or comes into possession of such-and-such a house, villa, car, restaurant, etc. We often do not wonder whether these goods belong to a given person or, for example, to a bank. Actually, I assume, that in a large proportion of cases this is what we are supposed to see – ONLY this property – like the car my kids watched and obviously liked it. Such property is supposed to arouse jealousy (exactly!), It becomes a social symbol, which is to show to which class its holder (not owner) belongs. Secondary importance at this point, for an observer is the fact, that the property does not belong to holder, that has it. We finally get to the definition of net worth, i.e. how much I actually have. Let’s define the value of your net worth. It is the value of the property owned less the value of liabilities we have, e.g. loans taken for its purchase, which we have to pay off. Of course, for the calculations, we take into account all the assets we have, not only those purchased on credit. On the other hand, it will include credits or loans not taken for any specific purpose. The result that will appear will determine our financial condition. So this can be summarized by the formula:
value of assets at our disposal – value of liabilities = value of net worth
What increases and what decreases our value
So we have two sides of the same coin. On the one hand, the value of your net assets is increased by the value of your property, including savings. On the other hand, liabilities of all kinds reduce our net worth. What conclusions? People who surround themselves with beautiful things often do not own them. It happens that the net worth of the assets owned by such persons is below zero. So if they sold everything they have, they would not be able to pay off all their obligations. Sometimes the media show spectacular bankruptcies resulting from the inability to maintain large assets financed, for example, by a loan. Negative net worth is not a difficult feat at all.
How to calculate our net worth
We already know, that net worth can be negative. But to the point, how do we calculate net worth. It will be a bit like building a balance sheet. I suggest using a table. List what you have on the left siede and your debts on the right. Of course, I suggest using Excel or some free replacement for it. Below are some sample calculations that clearly show this mechanism.
On the left side there are positions that increase your net worth. On the right, those that reduce. The above items are examples and really depend on the individual situation of each of us. Note, that if you have a loan for an apartment, you enter the actual value of the apartment on the left and the actual value of the loan on the right (as much as you would have to have money to pay it back at this point).
It is important to calculate your net worth every certain, obviously longer period of time. It’s best to save the calculation file and then compare it with another file from an earlier time period. When calculating the net worth, for example every year, you need to update on the one hand the value of the property and on the other hand the value of the loans. The price per m2 of an apartment is practically constantly growing. If you bought an apartment for 400 000 EUR, it may turn out that after a year it is worth 500 000 EUR. Of course, you enter the value of the loan in the table, that you would have to pay back at this point. When it comes to real estate, at the moment you earn almost all the time automatically on the increase in their value. If you have movables, such as: a car, you must take into account, that they will quickly lose their value, unless you have a vintage car, the value of which increases over time.
How high should your net worth be?
The answer is quite obvious. The bigger the better. When you think about financial freedom, you need high net worth. Read my article on How much money is needed to be a rentier.
Conclusions resulting from the considerations
The conclusions from the above considerations are obvious:
1. People who flaunt large, visible wealth often don’t have a large net worth.
2. It is advisable to keep your costs low – not to “fall” into negative net worth.
3. It is worth increasing your savings and insuring yourself in the event of unexpected loss, e.g. of a source of income or investment opportunities
Of course, it’s important to remember that our net worth does not always depend only on our activity. It happens, that despite your strenuous actions, the market will reduce your assets, especially if you invest risky. Usually I do not comment on the current economic situation, but at present we are in a situation, where the money deposited in the bank don’t bring profits. Of course, it is the high inflation, that is to blame – currently it is probably much higher, than the amount of interest received on deposits.
I will be happy, if this post is useful for you or inspires you to take positive action. I have a request to like my Facebook page.
Below there are some my other posts, that I invite you to read: