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My Net Worth Statement

Reviewing Your Net Worth Statement

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Now that you have a spreadsheet full of numbers: what does it mean? To help figure that out, ask yourself the following questions, looking to your net worth statement and the other articles we mention for answers.

As you review the questions, keep in mind that these are just some of the questions that a net worth statement can help you answer. Only you know what's more important to you. Focus on what's important to you first.

Read your net worth statement over a few times on different days. Chances are, you'll discover something new each time.

If you need help interpreting your statement, consider hiring a fee-paid Financial Planner. See Choosing A Financial Planner.

What is my net worth?

If your net worth is negative, review Managing Your Debt, Increasing Your Income, Spending Less, How To Deal With A Financial Crunch and, perhaps, Bankruptcy.

If your net worth is positive, compare your net worth to your income. Consider setting a goal of having a net worth of at least twice your annual income -- especially if you're possibly headed for disability or early retirement.

Are my assets sufficient to live off of if I become disabled?

Now that you know what you own and owe, take a look at what would happen if you became disabled. Based on how much you are now saving and how much you currently own, how much will you have in the future to live off of if you become disabled? See Financial Planning For Disability. Also see: Determining How Much I Need For Retirement, Savings Calculator (to determine how much you need to save to reach your financial goal), and How Long Will Your Savings Last?

How much short-term debt do I have?

Short-term debt tends to cost more than long term debt such as a mortgage on a home because of higher interest rates. Compare your liquid and invested assets to your short-term debt. Does it make sense for you to pay off that debt? Unless the interest rate you can earn on the money you would be accessing to pay short-term debts is higher after tax than the interest you pay on your credit cards, paying off these debts might make sense for you. See Managing Your Debt.

Do I have an emergency fund? If so, is it accessible?

It's always good to have some cash in reserve, even if you have short term debt with a rate of interest higher than you're earning on the savings. While we'll tell you more about your emergency fund in Assessing Your Financial Goals and Your Cash Flow, be aware that the money you have earmarked for your emergency fund should all be held in the assets in the chart's first box: "Liquid Assets: Cash and Cash Equivalents." (See Emergency+Fund)

What about long-term debts?

Compare your long-term debts to your invested assets. If you can, it might make sense to pay off some of these debts to save on interest. However, before doing so, consider the following:

  • Capital Gains Taxes: Before liquidating assets to pay off debts, consider the tax you may have to pay on the increase in the value of your investment.
  • Loss of Income: If the assets you might use to pay off debt pay dividends or interest on a regular basis, and you use this income to live off of in part or in full, realize that that income stream will end when you sell the asset. However, your need for income might also be less if your monthly debt payments are decreased or eliminated.
  • Your life expectancy: If your life expectancy is less than two years, you might be better off conserving your cash -- especially if you have credit life or disability insurance.
  • Credit Life or Disability Insurance: If you have credit life or credit disability insurance on your home and/or auto that you think you might use in the next two years, it might make sense to not pay down long-term debt since you'll be using money to make payments that the insurance company would make if you filed a claim.
  • Your after-tax rate of return: Calculate the after-tax return you earn on the money you would use to pay off long-term debts and compare that to the cost of the debt.
  • Loans (not mortgages): If the interest you pay is higher than the after tax return on your investment, you might be better off paying off or paying down the loan. To make this calculation: take the average rate of return on your investments and multiply by one minus your tax rate. Then, compare the result to what you pay in interest on the loan. For example, let's look at Krystal's car:

KRYSTAL'S CAR

Krystal has a $5,000 car loan that charges 10% interest and $5,000 in a mutual fund earning 12%, half or which is in dividends, which are taxed as income and not capital gains. Krystal is in a 28% combined federal and state tax bracket and 20% capital gains tax bracket.

Auto Loan: Guaranteed to lose 10% interest per year, after tax.

Mutual Fund:

  • Krystal earns 6% in interest on which she pays tax at a 28% rate ''" her tax bracket. This is an after-tax return of 4.32%, calculated as follows: .06 times (1 minus .28).

  • Krystal's mutual fund investment grows in value at the rate of 6% per year, but when she sells her interest she'll pay 20% capital gains taxes on the growth. This is a 4.8% after-tax rate of return calculated as follows: .06 times (1 minus .20).

So, Crystal's after-tax rate of return on the mutual fund is:

4.32% + 4.8% = 9.12%

Krystal is not earning as much on her mutual fund as she is paying in interest on her loan. Unless she has a short life expectancy and credit life insurance on the loan, or unless she expects to go on disability within the next year and has credit disability insurance on the loan, Krystal should consider paying off the loan. If she does, she'll be earning a guaranteed after-tax return of 10%.

NOTE: If Krystal had a condition which had a statistical life expectancy of less than two-years, she might be better off trading in her car for a new one, putting up as little as she can as a down payment and getting credit life insurance on the debt resulting from the purchase. This way, she would also keep the mutual funds to supplement her income should she become disabled. If Krystal also got disability insurance on the loan, the insurance might make her monthly payments for her.


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