I’ve been re-reading The Millionaire Next Door lately (what!? it’s an annual tradition), and I’ve been revisiting the idea of net worth benchmarks.
To read the Wikipedia Notes on the book, check out their “The Millionaire Next Door” summary here.
WHAT IS “NET WORTH”
It is (for me), the single best indicator of your financial health and wealth.
I had always thought that a high income meant you were rich, but after experiencing debt on a high income ($65,000 gross a year), and realizing I had technically had less than a beggar on the street with $50 in change.
Seeing as I owed $60,000, I realized income was just a number.
It is more important to figure out your net worth as the indicator of your wealth.
HOW TO CALCULATE YOUR NET WORTH
Generally speaking it’s:
ASSETS — LIABILITIES = NET WORTH
Whatever you own, without what you owe, is what you are worth.
Update: Of course by “worth” I mean in a dollar & cents sense.
Not worth as in worth as a human being contributing to the world and to society.
This is where it gets tricky however, how do we figure out what we own or owe?
For me, I say anything in a bank account and your house and cars.
I don’t add my (very cheap & fully paid for) car in my net worth any more, but that’s because I’m lazy and I’d rather just count the numbers than to figure out the value and so on.
But if you have a car loan and you don’t off set it with the value of the car, then it isn’t an accurate picture.
Everything else, such as personal effects — laptop, clothes, furniture — is not included in that, although some people do estimate the worth of their valuables and add it to the list. Either way it’s fine.
There are many ways to slice the net worth cake, and it’s all up to what you feel is a fair and accurate representation of what you’re “worth”.
HOW DO YOU MEASURE UP?
So in the book, they give this calculation to see if you are ‘on track’ for your age and income.
Multiply your age times your realized pretax annual household income from all sources except inheritances.
Divide by ten.
This, less any inherited wealth, is what your net worth should be.
But at that time, I was in $60,000 of debt, being a newly graduated college student. This made no sense to me, seeing as I was working, but I owed a lot!
My original net worth calculation was supposed to be:
22 x $65,000 = 1,430,000
1,430,000 / 10 = $143,000
I should have been at $143,000 of net worth right out of school, and I was at NEGATIVE $60,000!
Naturally, I saw this and became extremely dispirited and depressed.
I thought I had failed myself and I’d never catch up to be someone who was financially secure.
This was the general consensus among students, so other blogs came up with other calculations for students:
So came another net worth calculation for students, using the same principles:
Your age minus 27, then multiplied by your realized pre-tax income less any inheritances
Now divide by 10
This made much more sense, seeing as since I was 22, I would be in the negatives for net worth if we accounted for students who weren’t fortunate enough to have their tuition covered.
As for choosing the number 27, it is because they assumed it would take 5 years to clear student loans diligently, therefore since many students graduate at 22, 22 + 5 = 27.
My new net worth calculation for students was now:
22 – 27 x $65,000 = – $325,000
- $325,000 / 10 = - $32,500
There, much better. Negative $32,500.
I was still $27,500 below THAT benchmark, but at least I wasn’t off by such a huge amount!
QUICK AND HANDY CHART (from CNN Money)
So if you want to have a quick (very simple) comparison chart of what you are worth compared to others in your age and income, here it is!
I couldn’t show everything here, there are too many variables.
NET WORTH IS JUST A NUMBER
In short, net worth is the number that most people don’t know about you, but is the best general indicator of wealth (just speaking in numbers of course).
They might know your age and income, but net worth is what you save aside, so unless you tell them what you save on a regular basis and how much you owe, they probably have no clue, seeing as they don’t have inside knowledge into your finances and bank accounts.
It is handy for you to know what it is, so you can keep track of your growth and to use it as an indicator for your personal assets. By tracking your net worth on a monthly or yearly basis, you will be in a better position to know if you are improving your financial situation. You can use Excel to track down your assets and debts or you can use a free software that track it for you (how cool is that?). I personally use Mint since it’s free and I can get my monthly update on my net worth without working hard:
Other ways you can count yourself as being rich is to just simply feel like you are, and you wouldn’t be far off from the truth.
Check out this Global Rich List, and you will immediately see just how rich you are compared to the rest of the world.
Here’s an example with $45,000 as a salary:
If you have all your needs covered and then some, and your wants are few and far between, you probably feel rich and content.