Your Net Worth vs Liquid Net Worth (& Why You Should Care!)
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If you’re like many people, you’re looking to get a handle on your financial life this year. This is a great goal to have because like anything else, until you have a clear understanding of where you are, it’s hard to improve.
But finances can be confusing and you may not know where to start. I get it! To sort through everything and try to figure out where to focus can be overwhelming.
Even learning the jargon can feel like you’re learning a foreign language. Don’t worry, you don’t have to conquer it all at once. Instead focus on learning some of the basic financial terms and build your knowledge from there.
In this article, we’ll cover some key financial terms that everyone should know. We’ll explain what net worth is and what the difference is between net worth vs liquid net worth—and why you should even care!
Net Worth vs Liquid Net Worth
It’s important to understand the difference between net worth vs liquid net worth because the two are very different things. Many experts say that liquid net worth is a more accurate measure of a person’s financial health.
What Does Net Worth Mean?
Net worth is simply the value of everything you own minus your liabilities. To break it down further, your net worth is basically everything you own that’s of any significance, minus your debts. The sum is your net worth.
How is Net Worth Calculated?
Net worth is really very simple to calculate. Add everything that you own (your assets) and subtract out everything that you owe (your liabilities). The difference is your net worth.
Assets are items of value that you own. This would include things like cash, any money in checking, savings, money market and retirement accounts, stocks, bonds, real estate, vehicles and art.
Liabilities are debts that you owe. These would include student loans, credit card debt, medical debt, car loans, and mortgage loans.
When you’re just starting out, it can be difficult to build your net worth. In fact, you may have a negative net worth, until your career gets rolling.
Think about it. According to US News, the average graduate in the U.S. who borrows money for college graduates with 30k in student loan debt. Add in any car loans and credit card debt and your total liabilities upon college graduation could be closer to 40k.
So if you’re like the average college grad, chances are you’ll start out with a negative net worth until you’re able to pay down your student loan debt and build up some savings. Frustrating, right? I get it! But, there’s hope. My husband and I paid off $78,000 in student loan debts…and you can too!
Liquid Net Worth Meaning
Liquid net worth is the total value of your liquid assets minus your total liabilities. The tricky part with liquid net worth is figuring out which of your assets are liquid. A liquid asset means the item can be quickly converted to cash for it’s full cash value.
So think of things like cash, any money in savings, checking and money market accounts as well as stocks and bonds.
Non-liquid assets are things you one but you’d have trouble converting them to cash quickly. Think of things like your home, your car, and your 401k. Your home and your car aren’t liquid because it would take you time to sell these items to get their cash value.
Your 401k isn’t a liquid asset because although you can get it quickly, you would pay a 10% penalty for early withdrawal if you take money out before retirement age. So it’s a non-liquid asset until retirement age, at which time it becomes a liquid asset.
So if you have 5k in your savings account and 5k in a money market fund, both of these items would be liquid assets because you could go to your bank and immediately withdraw your money and have the 10k in cash.
Same thing with any stocks or bonds that you own. You could sell the stocks and bonds today and immediately get the cash value. So these are all liquid assets.
But, if you own a car worth 15k, this would be an asset but not a liquid asset because you wouldn’t be able to immediately get the15k that the car is worth in cash. You’d have to first find someone to buy your vehicle for 15k.
Same goes for any real estate that you own. Your home may be worth 250k, but that doesn’t mean you could get that 250k today.
You’d have to put your house on the market and wait for someone to buy it, then pay off any mortgage loan. What’s left after you pay off any mortgage would be yours, but since the sale would take time, it’s not considered a liquid asset.
How To Calculate Your Net Worth
It’s a good idea to calculate your net worth so you can get an understanding of your financial position. And, thankfully it’s super easy to do!
Make a List of Assets and Liabilities
To start, grab a piece of paper and a pen. Make two columns on the sheet of paper. Title one column “Assets” and the other “Liabilities”.
Now start with Assets. Here is where you’ll write down each item of significance that you own. You’ll have things like cash, any money in checking and savings accounts, stocks, real estate, and cars.
Ideally your cash savings are in a high-yield savings account. Having your emergency fund in an account separate from your regular checking and savings accounts means you’re less likely to “accidentally” spend it.
If you need a recommendation, I like Axos Bank’s High-Yield Savings Account. It has a .61% APY, no fees, no minimum balance, and requires just $250 to open.
While you may think your shoe collection is an asset, unless it’s quite an extensive collection of expensive shoes, it probably isn’t something that should be counted as an asset.
On the other hand, if you’re lucky enough to own expensive art, that should definitely go in the Asset column.
Once you have listed all your assets, total Column 1.
Now it’s time to do the same thing in Column 2, only this time you’ll list your Liabilities. Remember liabilities are anything that you owe. So here you’ll list any student loans, credit card debt, car loans, and real estate loans and mortgages.
Once you have listed all your debts, total Column 2.
Where to Put Larger Items
Now you may be wondering which column to put big ticket items like houses and cars. That’s a good question! On one hand, these items are assets because you own them (or are buying them). On the other hand, they’re liabilities because you do owe money on them.
You’ll want to put big ticket items of value that you owe money on in both columns.
For example, if you are buying a home worth 250k and owe 200k on it, in the Asset Column, you’ll list your home as an asset of 250k. And in the Liabilities Column you’ll list the 200k mortgage loan you have on the house.
Once you have all assets and liabilities listed and both columns totaled, it’s time for the next step. The next step is where you take the total of Column 1 and subtract the total of Column 2 to get your net worth.
Example of How to Calculate Net Worth
Here’s an example. Lisa is buying a 300K home that has a 250k mortgage. She also is buying a Jeep worth 30k and has a 20k car loan. Plus, she also has 25k in student loans and 5k in credit card debt. She has 5k in her savings account and 40k in her 401k. Here is how her net worth would be calculated.
Assets:
Home – $300,000
Jeep – $30,000
401K – $40,000
Savings – $5,000
Total Assets: $375,000
Liabilities
Home Mortgage – $250,000
Jeep Loan – $20,000
Student Loans – $25,000
Credit Card Debt – $5,000
Total Liabilities: $300,000
Total Assets: 375,000
Minus
Total Liabilities $300,000
Equals A Net Worth of $75,000
The Difference Between Net Worth And Liquid Net Worth
Now if we were calculating liquid net worth, the total would be different because the liquid net worth only includes liquid assets. This is the difference between net worth and liquid net worth.
So if we take our example from above, the liquid net worth would be calculated like this.
Assets:
Savings- $5,000
Liabilities:
Your liabilities would still be the same as before, because you still owe what you owe, no matter what.
The 20% Rule
Unfair as it seems, we do have to count all liabilities but we don’t get to count all assets when calculating our liquid net worth. That being said, if we go by the 20% rule where we undervalue our assets by 20%, they still can be counted.
The 20% rule is basically saying that if you had to sell your non-liquid assets super fast you probably wouldn’t get full value, so we calculate these assuming a 20% loss of the value due to the quick sale that would be required.
As you can see, calculating your liquid net worth can significantly change your financial picture.
The good news is that even if your liquid net worth isn’t as glowing as you’d like, you can increase it! By paying down your debt and increasing your savings, you can build up both your liquid net worth and your net worth.
Remember that regardless of whether you’re calculating net worth vs liquid net worth, either will improve once you increase your assets and trim down your liabilities.
Jen Smith is a personal finance expert, founder of Modern Frugality and co-host of the Frugal Friends Podcast. Her work has been featured in the Wall Street Journal, Lifehacker, Money Magazine, U.S. News and World Report, Business Insider, and more. She’s passionate about helping people gain control of their spending.
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Paying off your debt as early as possible is the first step in achieving your goal to increase your net worth.