Your net worth to the world is usually determined by what remains after your bad habits are subtracted from your good ones. ~ Benjamin Franklin.
Beyond such philosophical implications, I have been thinking about the issue of usability of net worth since the last Sunday Review - in which I mentioned it with reference to Super Saver’s article on spendable net worth.
I am not just thinking liquidity when I say “usable”, I am also thinking *replacement-needs*.
Consider you own a quarter-million dollar house, a decent car, and thousands of dollars in a retirement account (say something like 401K - on which there is a penalty if you withdraw earlier than certain age limits). With these assets, assume that your conventional “net worth” is around half a million dollars. Next, suppose you lose your job (or fall into some other financial trouble) - how much of that half-million dollars net worth will come to your rescue?
Even if you downgrade your lifestyle, you will still need to replace a few things from your earlier lifestyle - you will still need a place to stay (owned or rented), a car, some furniture in your house (or apartment), and some other basic needs (may be this includes retirement accounts too) to sustain yourself and your family. So, although your net worth was half a million dollars, you will be able to liquidate only a part of it to support you through your financial troubles. The rest of it will go towards replacement-needs and you will never be able to use it.
On these lines, I am more inclined to think like this:
- Usable net worth of a home = [Current equity in your home] minus [Cost of replacement home/apartment]
- Usable net worth of a car = [Current value of a car - assuming you own it completely] minus [Cost of a replacement car]
- Usable net worth a retirement account = [Current savings] minus [Penalty/taxes for withdrawal]
Obviously, for certain retirement accounts, the penalty and taxes will be zero after you are of a certain age - at that time you will be able to realize the full worth of the savings - till such time, penalty and taxes should be considered.
In addition, there are other *liquidity* issues that sort of eat into the conventional net worth. For example, the current value of your car as defined by KBB may be $15,000, but when you actually put the car out for sale, it’s very less likely that you will get the full $15,000 for it. Such differences, between the theoretical values and what the market offers, further reduces the usability of net worth.
Sometimes, I wonder if there are “net worth rich” people who are in fact *poor* for all practical purposes after considering the usability of their worth.
Do you address this issue of usability of net worth? If YES, we would be interested in knowing how; and if NO, then we would be interested in knowing “WHY”.
Here are some other interesting discussions on related issues:
- Net Worth Is NOT Wealth: How to Determine Your Total Measure of Wealth by Nick @ Punny Money.
- What is Real Net Worth? @ Broke Now Rich Later.
- The Confusing Process Of Measuring Net Worth & Financial Progress by Teri @ Personal Finance Advice.