What is the net worth?
Net worth is a measure of the wealth of an entity, person or business, as well as sectors and countries. Simply put, net worth is defined as the difference between assets and liabilities. This is an important measure to assess the health of a business and it provides an overview of the current financial situation of the business.
What is net worth?
Understanding net worth
Net worth is calculated by subtracting all liabilities from assets. An asset is all that belongs and has a monetary value, while liabilities are obligations that deplete resources. A positive net worth means that the assets exceed the liabilities, while a negative net worth results when the liabilities exceed the assets. Positive and increasing net worth indicates good financial health, while a decrease in net worth is cause for concern as it could signal a decrease in assets relative to liabilities.
The best way to improve net worth is to reduce liabilities while assets remain constant or rising, or increase assets while liabilities remain constant or declining.
Key points to remember
- Net worth is a quantitative concept that measures the value of an entity and can be applied to individuals, companies, industries and even countries.
- Net worth provides an overview of an entity’s current financial condition.
- In business, net worth is also called book value or equity. The balance sheet is also called a statement of net worth.
- People with substantial net worth are known as wealthy people (HNWI).
Business net worth
In business, net worth is also called book value or equity. The balance sheet is also called a statement of net worth. The value of an enterprise’s equity is equal to the difference between the value of total assets and total liabilities. Note that a company’s balance sheet values highlight historical costs or book values, not current market values.
Lenders examine the equity in a business to determine if it is financially sound. If the total liabilities exceed the total assets, a creditor may not be too confident in the ability of a business to repay its loans.
A consistently profitable business will have increasing net worth or book value until these profits are fully distributed to shareholders in the form of dividends. For public companies, the increase in book value can be compensated by an increase in the value of stocks traded on the markets.
Personal finance equity
An individual’s equity is simply the value that remains after subtracting the liabilities from the assets. Examples of liabilities (debts) include mortgages, credit card balances, student loans and car loans. A person’s assets include checking and savings account balances, value of securities (for example, stocks or bonds), value of real estate, market value of an automobile, et al. In other words, all that remains after the sale of all assets and the repayment of personal debt is equity. Note that personal net worth includes the current market value of assets and the costs of current debt.
People with substantial net worth are known as wealthy people (HNWI) and are the market of choice for wealth managers and investment advisers. Investors whose net worth (excluding their principal residence) of at least $ 1 million – alone or with their spouse – are “investors approved” by the Securities and Exchange Commission (SEC), to invest in non-securities offers recorded.
Example of net worth
Consider a couple with the following assets – a primary residence valued at $ 250,000, an investment portfolio with a market value of $ 100,000 and automobiles and other assets valued at $ 25,000. The liabilities are an outstanding mortgage balance of $ 100,000 and a car loan of $ 10,000.
The couple’s net worth would therefore be calculated as follows: [$250,000 + $100,000 + $25,000] – [$100,000 + $10,000] = $ 265,000
Suppose that five years later, the couple’s financial situation changes: the value of the residence is $ 225,000, the investment portfolio is $ 120,000, savings are $ 20,000, the automobile and other assets $ 15,000; $ 80,000 mortgage balance and $ 0 car loan (repaid). Net worth five years later would be [$225,000 + $120,000 + $20,000 + $15,000] – $ 80,000 = $ 300,000.
In other words, the couple’s net worth increased by $ 35,000 despite the decline in the value of their home and their car. The increase in net worth is explained by the fact that the decline in the value of homes was more than offset by the increase in other assets (for example, the investment portfolio and savings), as well as by decrease in liabilities.
This results in a negative net worth if the total debt is greater than the total assets. For example, if the sum of an individual’s credit card bills, utility bills, outstanding mortgage payments, car loan bills and student loans exceeds the total value of his money and investments, his net worth will be negative. In this case, the individual can file for Chapter 7 bankruptcy protection to eliminate part of the debt and prevent creditors from trying to collect the debt. However, certain obligations, such as child support, alimony and taxes, cannot be fulfilled. In addition, bankruptcy will remain on an individual’s credit report for many years.
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