Your Net Worth
Real estate is a special asset because you can use it yourself, rent it, or perhaps
sell it for a profit.
THE STARTING POINT
Net worth doesn't measure cash flow, but there's a clear relationship between how you spend your money and what your financial picture looks like. If your assets outweigh your liabilities, you have a positive net worth. If your liabilities are larger, you have a negative net worth. Most experts would say your first goal should be getting into the black.
When you're calculating what your assets are worth, the number to use is their fair market value. That's the price a willing, rational, and knowledgeable buyer would pay for things you are willing to sell.
Knowing how your assets are divided is especially helpful for financial planning. For example, if you have more money in cash than invested in stocks, bonds, mutual funds, and annuities, you may want to diversify your holdings to increase the potential for long-term growth and income. And if you have nothing set aside for retirement, you may want to find a way to start.
Short-term debts are your current bills: credit card charges, installment and personal loans, income and real estate taxes, and insurance premiums. You generally include your credit card balances, even if you regularly pay your entire bill each month.
Long-term debts are mortgages and other loans that you repay in installments over several years.
When potential lenders assess your loan or credit card application - basically a net worth statement - to decide whether you qualify to borrow, they look at what you already owe. But they may also calculate what you might owe if you charged as much as you could on all your credit cards and drew on all your authorized lines of credit.
Lenders also look at your net worth statement for cash reserves and investment accounts. Having investments means that you have resources to tap into in an emergency, including assets that could be sold to pay your debts.
USING NET WORTH STATEMENTS
Figuring your net worth is not only a critical first step in financial planning. It will also come in handy in many financial situations. For example:
Mortgage lenders require a statement of your assets and liabilities as part of your application
College financial aid is based on your net worth, so you'll have to report your assets and liabilities when your children apply for aid
Loan and line-of-credit applications usually require net worth statements
Certain high-risk investments may require that you have a minimum net worth - say $1 million or more - and require a net worth statement as evidence