In our previous article, we discussed what net worth is and how it can be calculated for every individual. Net worth is simply the difference between the value of what you own—your house, retirement funds, investment accounts, checking account balance, etc.— and the value of what you owe such as the mortgage, car loan, other debts and so forth.
By knowing where you stand financially, you will be
- More mindful of your financial activities,
- Better prepared to make sound financial decisions and
- More likely to achieve your short-term and long-term financial goals.
Net worth is a robust indicator of your personal financial health. A positive and increasing net worth indicates good financial health and cushioning against financial setbacks. It is certainly cause for concern if your net worth is decreasing. However, it does not necessarily mean you are financially irresponsible.
With this in mind it is not only important for you to know what your net worth is but what your ideal net worth should be based on your current conditions. This allows you to set your net worth goal with a target in mind but more importantly knowing your ideal net worth places your financial progress in the proper context and provides a yard stick for evaluation.
To determine your ideal Net Worth, you can make use of the following
Approach I - The Catch-all equation
The use of an example will make this approach more practical. Assuming you are 37 years old, and you make ¢150,000 a year. Using the above equation, your ideal net worth would be ¢360,000.
Approach II - Annual Income Multiplier
Another approach to determining your ideal net worth to have a net worth of 2x more than your annual salary by the time you’re 40 years old and 4x your annual salary by the time you turn 50. Using our example above, if you are now 37 and your salary is ¢150,000, you should have a net worth of at least ¢300,000.
Tips on how to improve your Net Worth
Your net worth is a great measure of your personal wealth and you want that number to grow over time. Measures to grow your bet worth can be broken down into 2 main categories:
- Grow the value of your assets
- Reduce the cost of your liabilities
I. How to grow the value of your assets
- Increase your income by exploring multiple streams of income. The higher your income, the more money you can save, invest, or use to buy items that will go up in value.
- Reduce the money you spend on depreciating assets such as Cars, clothes, furniture and most personal possessions. They are usually going to be worth less than you paid for them after a short time.
- Invest your money wisely. It is important to be smart about the assets you invest in because you want them to grow.
- Avoid making unnecessary money mistakes by consulting a professional such as an Axis Pension Advisor.
- Have appropriate insurances to manage risk and preserve wealth.
II. How to reduce your liabilities
- Avoid borrowing more than you need to. Try not to take out loans for unnecessary purchases, such as vacations or an extravagant wedding.
- Create a strategic debt payoff plan. You will want to work on paying off debt, but do it in a smart way. For example, pay off high-interest consumer debt quickly as opposed to a very low interest mortgage.
It may be difficult to improve your net worth in these times of financial uncertainty (COVID-19), however, you can protect what you have now by:
- Building an emergency fund
- Focusing on meeting your basic needs
- Avoiding accumulating more debt
- Maintaining your current net worth
- Continuing to pay off your debt
- Avoiding withdrawals from your investment accounts if you have no need of them
- Continuing to invest
Above all have a personal finance strategy. Earning more is important but we must stop thinking that the solution to all our problems is more money. We are better off by creating a strategy that helps us to manage our money better. Your net worth will fluctuate. However, similar to the stock market, it is the overall trend that matters. Ideally, your net worth continues to grow as you age – as you pay down debt, build equity in your home, acquire more assets, etc.