The rule of thumb is that you have reached financial independence when your net worth is 25x your annual spending. Or, to reverse it, your annual spending is 4% of your overall net worth. I call it the rule of thumb because while 4% is the general consensus on what defines financial independence there are many people who say you can retire sooner or later. Check out 4% Rule of Thumb Article for a more in depth look at where the 4% comes from.
So how do you calculate your net worth???
Net Worth = Assets – Liabilities
If you look at their core meaning; assets are the things you own and liabilities are the things you owe. Your net worth is a simple subtraction problem of your assets minus your liabilities.
Assets can be broken down in to two categories: appreciating and depreciating. Appreciating assets are things that gain value over time. For example, when you purchase your house the expectation is that its price will rise over time. Or your investment accounts at the where the overall value is increasing over time. Depreciating assets are things that lose value over time. A vehicle is the perfect example of this, according to CarFax.com a car can lose more than 10 percent of their value during the first month after you drive it off the lot!
Your net worth will include both types of assets but knowing the true value of each asset while it increases or decreases value will help determine your net worth. Even a pair of shoes can be considered a depreciating asset but things along that nature are typically not a part of calculating one’s net worth.
Some common assets are:
- Market Value of your House
- Market Value of your Vehicle
- Retirement accounts
- Checking/Savings Accounts
- Certificate of Deposits (CD’s)
- Real Estate
- Jewelry
Some common liabilities are:
- Credit Card Debt
- Mortgages
- Vehicle Loans
- Personal Loans
- Student Loans
- Boat, Lawnmower, motorcycle, ATV Loans
- Medical Debt
How do you Compare?
According to the Federal Reserve the average net worth by ages is as follows:
| Under 35 | $68,479 |
| 35-44 | $169,919 |
| 45-54 | $286,831 |
| 55-64 | $468,126 |
| 65-69 | $819,769 |
| 70-74 | $861,537 |
| >75 | $459,026 |
Now What?
Now that you are armed with the basics of assets, liabilities, and net worth how do you use that in your financial independence journey? This foundational knowledge will help you in three different ways.
- It lets you understand your current financial situation
- It provides a reference point for measure your progress towards FI
- What gets measured gets managed
There are lots of financial companies who are willing to assist you in managing your assets. Most of those companies will charge for those services and if you continue to read the articles on my website you will quickly find out that paying them for their services just isn’t worth it.
There are many free options out there where you can put all of your accounts in one location to look at the information. Some examples can be your workplace retirement account, brokerage companies (TD Ameritrade, Vanguard, etc.), and even some banks. You can also create your own Excel spreadsheet and track it that way. However, your Excel spreadsheet isn’t tied in to your bank account and requires a decent amount of work to keep it up to date.
I prefer to use Personal Capital. On the website you can keep track of your assets, liabilities, and follow your net worth in real time! They provide financial planning, tax optimization and advice that is specifically tailored to you. It also provides a free analytical tool which allows you to track your cash flow and helps keep you involved you’re your future. Use the link below to start building your foundation now! Affiliate link for Personal Capital.
“Out of sight, out of mind”
This statement could not ring more true to your financial performance. If you aren’t paying attention to your finances and continue to put yourself farther in to debt by taking on more liabilities then your goal of FI gets pushed further and further away. I get weekly e-mails from Personal Capital which informs me how my net worth has changed over the past week along with my spending habits and articles to keep me informed.
Take Away Points
- Assets are things that you own
- Liabilities are things that you owe
- Net Worth = Assets – Liabilities
- Tracking your net worth lets you know where you are
- What gets measured gets managed
