How To Calculate Your Economic Net Worth
Do you know your net worth?
I have to admit this question scares me. As someone who loves tracking her expenses and investments, I have long avoided actually calculating my net worth.
Naively, I thought that by age 28 I would have accumulated a net worth worthy of someone who’s well on their way to financial independence. But that’s hardly the case anymore.
Your Financial Net Worth
The simple calculation for net worth is this:
Take all the assets you own and subtract all the debt you have. Voila, you have the dollar value of what you are worth in this capitalistic society.
Assets – Liabilities = Net Worth
In any financial planning, you’ll go through the list of all your assets:
- Cash in current accounts, savings account, fixed deposits and brokerage accounts
- Cash in EPF account
- Cash in foreign currency (current market value)
- Stocks, bonds, unit trusts, and other investments (current market value)
- Property (current market value)
- Car (current market value)
And then, you’ll confront your debts:
- Home loans
- Car loans
- Credit Card debt
- Student loans (PTPTN
*cough* pay up if you can afford it *cough*)
- Other loans and debt
If you get a large positive number, that’s great. It’s a completely different story if that number is negative. You do a quick mental calculation and now you might be sitting there thinking, “Shit, I’m never going to achieve financial independence. Thanks a lot, Nicole for pointing that out. Now I’ll be losing sleep over this as well.”
Before you go losing sleep over your net worth, I will say that the calculation only paints half the picture. The very definition of an asset is something that can generate income and create value. In all net worth calculations, there’s a very valuable asset that isn’t accounted for: YOU.
What Are You Worth?
I know it’s a bit distasteful to think of yourself as an asset. After all, you’re human, not an object. But it’s worth knowing how much you can contribute to your overall net worth.
Calculating your economic value is a bit tricky. This requires you to assume how much income you’re going to earn and how much pension contribution you’ll receive (if you’re employed in a company) until you retire.
Assuming you’re 25 years old, you’ll have 30 years until retirement at age 55. With a monthly salary of RM3,000, you make RM36,000 this year.
Let’s just say your company gives you a raise equal to the inflation rate every year, this means that in actual real dollar value, your salary doesn’t actually increase every year (sorry!).
At the end of 30 years, you would have earned:
RM36,000 x 30 years = RM 1,080,000
Not bad. At retirement, you’ll have over RM 1 million (in today’s value). So, you are worth a million bucks!
You can also add another layer to the calculation by including expected EPF contribution from both you and your company.
Assuming your RM3,000 salary is after deducting EPF and taxes, doing some backward maths, every month you will have contributed RM370 into your EPF account and your employer will have contributed RM430.
So that’s another ~RM800 a month of future income attributed to you being an asset to your company (this is assuming your salary grows exactly the same as inflation).
So, at retirement you’ll have an additional:
RM800 x 12 months x 30 years = RM288,000
Now you must be thinking, “Wah, like that ah! Okay lah, that means my net worth is actually much higher than what it is now.”
Well, not so fast. Hate to break it to you but as much as you are an asset, you are also a liability.
You have to account for all the expenses you’re going to make in the future.
Say you spend RM2,000 of your monthly take-home pay and this expense increases with inflation.
This means that in today’s dollar terms, your expenses amount to:
RM24,000 x 30 years = RM720,000.
So, effectively, your actual value is about RM648,000.
Hey, it’s still not a bad position to be in. When you add this value to your current net worth calculation, you will get what is called your economic net worth.
(Assets + Non-financial Assets) – (Liabilities + Non-financial Liabilities) = Economic Net Worth
Why Is It Important To Know Your Economic Net Worth?
Your economic net worth is a snapshot of where you stand right now financially. If you’re still looking at a negative number even after including all your future income and expenses, it’s time to start asking the difficult questions.
There are some things you can do to help increase your net worth at a much faster rate than just waiting for your stocks or properties to increase in value.
1) Pare down debt quickly
For high-interest debts such as credit cards, pay them off as quickly as possible. You will eliminate having to pay interest on these debts as part of your future expenses.
2) Reduce spending or maintain spending level as the years go by
This is a tough one. As years pass and as we grow older, we start to have lifestyle inflation. If you can sustain a consistent spend every year, kudos to you!
3) Increase your income by more than the inflation rate
The above examples prove that getting a 3% raise every year is not enough. You also have to remember that salaries tend to stagnate as you grow older and even CEOs have a ceiling on how much they earn (minus the bonus packages, of course).
Progressing through your career in your 20s and 30s, there are opportunities to prove your worth and with that, you can start negotiating better salary packages for yourself to beat the inflation rate.
Stocks, bonds and property are pretty straight forward and with enough experience, can be fairly predictable. On the other hand, YOU are a much more complicated being.
When it comes to financial planning, it is often advocated that you take a long-term view so that you know where you’re going to end up 30 years or 50 years from now.
The problem is humans are varied and everyone approaches money differently. We are ever-changing and are prone to making decisions that aren’t financially smart but are necessary or important life decisions.
There will be periods in life where things will take a very drastic turn. You might decide to get married or have children. Or like me, change your career or up and move to a different country.
All of this will then change the assumptions you made about your income and spending and ultimately, will affect your economic net worth as well.
However, when it comes to the small stuff, like cutting back on unnecessary spending, there’s really nothing stopping you from “becoming rich”.
The path to financial independence is not linear but being aware of where we are right now will absolutely help us navigate our choices and decisions better in relation to it.
When’s the last time you calculated your net worth?
Are you satisfied with your number Can you live with that number? If no, what are you doing to change that? Comment below or come find me on Facebook, Instagram, and Twitter.
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