To chart a path to financial independence, you need to know where you are now.
The best tool to determine your starting point is a net worth statement. Your net worth is essentially a snapshot of your general financial condition at a given point in time. As you increase your net worth, your overall wealth base also increases so it is a good idea to set goals to increase your net worth each year.
Your net worth consists of everything you own minus everything you owe. To calculate your net worth, add up everything you own (assets) and subtract everything you owe (liabilities). The result is your net worth.
Assets include cash on hand (checking accounts, savings, certificates of deposit (CDs)) stocks, bonds, mutual funds, your house and cars, the cash value of life insurance policies, retirement plans, annuities, real estate and business interests, household furnishings, antiques, jewelry, coins, and artwork. In other words, anything of value you own that could be sold. When estimating the value of your assets, don’t worry if you don’t have the exact dollar amounts. Simply write down the amount you think you could reasonably sell each item for today or the ‘fair market value.’
Liabilities include outstanding loans (student, auto, installment), mortgages, credit cards, unpaid bills (medical, utilities, etc.), and taxes you owe (income tax, real estate taxes, etc.).
If you have more assets than liabilities, you have a positive net worth, and that’s a good thing. It means that you have a good base to start with. If on the other hand, your liabilities are greater than your assets, you have a negative net worth, and while that is not the best thing, it’s important to know so that you can determine areas you need to work on to grow your net worth and your wealth.
Once you complete your net worth statement, consider any changes that might be occurring in the next year that could impact it, and then project your net worth for the coming year. For example, paying off a current debt will decrease your liabilities and increase your overall net worth. After you factor in all of the possible changes, set a goal to increase your net worth, either by a specific dollar amount or a percentage and develop a plan to get there. This last step is important because it means that you are being proactive in managing your money and setting goals to increase your wealth.
Common ways to increase your net worth include increasing your savings, increasing the return on your investments, decreasing your debt, or a combination of these so look for ways to incorporate these strategies into your overall financial plan.
Remember, conducting a net worth analysis each year not only points out where you are but it gives you a consistent way to track your wealth as it grows! ps!