Net worth is a financial metric used for determining financial health in both personal and business finance.
Net worth is defined as the value remaining after you add up all the assets and subtract all outstanding debt (liabilities). This number is like a snap shot, it represents a specific date and time.
Example of net worth for an individual:
Net worth is defined as assets minus liabilities.
For example, Bob owns a house worth $200,000 and a car worth $30,000 therefore has total assets of $230,000.
Bob owes $145,000 on his home and he owes $25,000 on his car, so his total liabilities total $170,000.
Bob’s net worth is $60,000 ($230,000 – $170,000).
Example of net worth for a business:
Net worth for a business is defined similarly to that of a person.
In this example, Janet’s Bicycle Shop has inventory of $50,000 and cash in the bank of $10,000 so the shop’s total assets equal $60,000.
Janet’s Bicycle Shop owes $15,000 to vendors for the inventory so the shop’s total liabilities is equal to $15,000.
Janet’s Bicycle Shop has a net worth of $45,000 ($60,000 – $15,000).
Why is net worth important?
Net worth can indicate the efficiency of how an individual spends his income. A person who spends less than his income regularly enough to develop savings and does not overuse debt such as credit cards can be viewed as a responsible individual.
In retirement when many people don’t have sufficient continuous income, one can draw down from the balance of their net worth to augment their retired lifestyle spending requirements.
Also known as owner’s equity, net worth is important because it is conveys the remaining value of all the business activity over time.
Lenders compare net worth to liabilities in a business. Money invested in a company can come from owners and it can come from outside investors or lenders. Lenders want to see the ratio between the amount of money invested by owners and money invested by outside lenders. Lenders are more comfortable if an owner has a significant investment in his own company.
A lender also wants to know that if the business must be liquidated that there will be enough money left over to repay the loan.
How to calculate your net worth:
Add up all of your assets, then add up all of your liabilities (debts). Subtract the liabilities from the assets and you have calculated your net worth.
Here’s a link to a handy net worth calculator on www.FranchiseOpportunities.com.
How to improve your net worth:
Improving your net worth is a function of increasing your assets and/or decreasing your debts.
- Pay off credit card debt.
- Live more economically and bank the savings.
- Get an extra job to earn more money.
- Contribute to your retirement savings plan, especially if you have an employer that matches your savings contributions.
Consult qualified financial advisors for more information on how to improve your net worth. Track your net worth over time and soon you’ll find many different ways to increase it.