There are a number of different metrics that you can use to understand your financial situation. One of the most important of these is your net worth. Unlike your net income, which is an expression of how much you earn minus your expenses, your net worth is a tally of your assets minus your liabilities.
You Can See If You’re Trending in the Right Direction
Increasing net worth is one of the primary goals of financial planning. When you calculate your net worth regularly, you can see if it is trending in the right direction. With proper financial planning, saving and investing, people tend to increase their net worth over their lives, in part due to the fact that incomes tend to increase as we age. If you find that your net worth is decreasing even when you start earning more money, it’s a clear sign that you need to make some adjustments in your financial life.
It'll Help You To Assess Your Debt Levels
Debt is a nagging drag on net worth that’s all too easy to ignore. But if you’re carrying debt, it’s important to face reality before things get out of control. When you record your net worth, you can see in black and white exactly how much you owe and how rapidly your debt is growing. By regularly calculating your net worth, you can assess your debt levels and manage them accordingly.
You'll Be Able To Determine If You’re Investing or Simply Spending
Although there’s nothing wrong with spending some of your money on entertainment and depreciating assets, it’s important that a significant portion of what you earn goes toward investments. If you spend most or all of the money that you earn, you’ll never be able to increase your net worth. But if you invest in appreciating assets like stocks and real estate, your money goes to work for you rather than simply vanishing.
It'll Help You Evaluate Your Investment Portfolio
Calculating your net worth regularly is a good way to see just how well (or poorly) your investment portfolio is performing. Although investing in stocks is generally a good way to build your net worth, not all stocks go up in value. Similarly, real estate is generally a good long-term investment, but buying an overpriced property in a bad neighborhood is not a formula for success. Keep an eye on your investment portfolio regularly to ensure it’s working for you, and don’t be afraid to make changes if it’s not.
You'll Know If You Can Afford a Big Purchase
Before you make a big purchase, it’s important to know if you’re in a position to afford it. Whether it’s a house, a car or even new appliances for your house, big purchases can wreak havoc on a financial plan. By knowing your net worth, you can tell right away if you’re in a position to afford these types of big purchases without upsetting your long-term financial plans. If you’re not quite ready, you can take some time to shore up your finances before spending a big chunk of change.
It'll Help You Keep Your Debt-to-Income Ratio Under Control
Your net income is a good way to calculate your debt-to-income ratio, but your net worth will also give you the debt portion of that equation. If you find that your debt is rising every time you check your net worth, there’s a good chance that your DTI is rising as well. While increasing debit is typically bad in and of itself, a rising DTI might also hurt you if you’re looking to buy a home or investment property, as it is a critical metric for qualification.
It'll Identify Areas Where You Can Improve Your Net Worth
The only ways to grow your net worth are to lower your debts and increase your assets. But until you actually calculate your own net worth, it can be hard to tell exactly where you need to improve. High debt levels, for example, are not necessarily damaging to net worth if that debt has been used to increase asset levels, such as through investment property. But if you’ve got high debt without a lot of savings or investments, you’ll want to trim those levels down.
It'll Help You Set Additional Goals
Financial planning is not a “one-and-done” exercise. Rather, it’s a lifelong process that should be continually updated. As you reach one financial goal, you should be setting additional ones. Tracking your net worth is a great way to see how you’re doing in relation to your financial goals, and it can also help you set new goals.
It'll Help You Plan For Bequests
As your net worth increases, you might want to start planning for where all that money will go once you pass. Calculating your net worth is a great way to identify all of your assets so you can plan how to distribute them to your heirs. It’s also a great way to keep a current inventory of these assets so your heirs or executor can understand what you own in the event of your untimely death.
You'll Be Able To Ensure Your Emergency Fund Is Sufficient
Having a sizable emergency fund of at least three to six months of your income is the cornerstone of a solid financial plan. As an emergency fund is an asset, it’s also an important part of your net worth calculation. If you regularly review your net worth, you’ll always know where your emergency fund stands in relation to your other assets. If your emergency fund is too low, you’ll know it might be time to convert some of your other assets into your liquid emergency fund.Your financial situation needs to be adjusted if you notice that your net worth is dropping even as you start earning more money.
You can assess your level of debt with its assistance.
Debt is a persistent negative impact on net worth that is all too simple to overlook. But before things spiral out of control, if you have debt, it's critical to face the facts. The amount of debt you have and how quickly it is accruing may be seen in black and white when you keep track of your net worth. Your debt levels can be evaluated and managed appropriately by frequently evaluating your net worth.
It will be possible for you to distinguish between investing and spending.
While it's okay to spend some of your money on leisure and depreciating things, it's crucial that a sizable amount of your income goes towards investing. You can never increase your net worth if you spend the majority or all of your income. But if you put your money into assets that appreciate over time, such as stocks and real estate, it works for you rather than just disappearing.
It Will Aid You in Assessing Your Investment Portfolio
A smart approach to gauge how well (or poorly) your investment portfolio is doing is to frequently calculate your net worth. Not all equities increase in value, despite the fact that stock investment is typically a fantastic strategy to increase your net worth.Similarly, purchasing a home at an inflated price in an undesirable area is not a recipe for success. Real estate is typically a smart long-term investment. Regularly review your financial portfolio to make sure it is serving your needs, and don't be hesitant to make adjustments if it isn't.
You'll be able to afford a major purchase once you do.
Consider your financial situation carefully before making a large purchase. Large expenditures can have a disastrous effect on a financial plan, whether they involve a house, a car, or even new appliances for your home. If you are able to finance these kinds of large purchases without jeopardizing your long-term financial stability, you can tell right away by understanding your net worth.You can wait to spend a sizable sum of money if you're not quite ready and instead take some time to stabilise your finances.
It will aid you in maintaining a manageable debt-to-income ratio.
The debt component of your debt-to-income ratio can be calculated using your net income as well as your net wealth. If you see that your debt is increasing each time you review your net worth, there is a significant possibility that your DTI is also increasing. While rising debt is normally a terrible thing in and of itself, it could also work against you if you're trying to qualify for a loan to buy a house or investment property.It will point out opportunities for you to increase your net worth.
You can only enhance your net worth by decreasing your debt and building up your assets. It can be challenging to pinpoint exactly where you need to make improvements before you figure out your personal net worth, though. For instance, if high debt levels have been used to accumulate more assets, such as through investment property, they may not necessarily be detrimental to net worth. However, you should reduce such amounts if you have a heavy debt load and little saved or invested.
You can use it to set new objectives
Money management is not a "one-and-done" process. Instead, it should be constantly updated as a lifelong process.You ought to be establishing new financial objectives as you accomplish one. A wonderful technique to monitor your progress towards your financial objectives and to help you create new ones is to track your net worth.
You can use it to prepare for bequests
You might want to start making plans for what will happen to all of that money once you pass away as your net worth rises. A wonderful method to identify all of your assets and make a strategy for how to pass them to your heirs is to calculate your net worth. Additionally, it's an excellent way to keep track of your possessions so that, in the event of your untimely passing, your executor or heirs will know what you own.
You may make sure that your emergency fund has enough money
A strong financial plan is built on having a sizable emergency reserve that is equivalent to at least three to six months of your salary. Since it counts as an asset, your emergency fund is crucial when determining your net worth. Your emergency fund's position in respect to your other assets will always be known if you routinely check your net worth. You'll be aware that it might be time to transfer some of your other assets into your liquid emergency fund if your emergency fund is too low.
The difference between your assets and liabilities is known as your net worth. The gap between your assets and liabilities is your net worth, put simply. A positive net worth is one in which your assets are greater than your obligations. On the other hand, you have a negative net worth if your liabilities outweigh your assets.