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What is your net worth? No, I’m not asking a personal financial question.
Rather, the question is what is included in your net worth? The standard definition of net worth is a financial metric that represents the total value of a person’s assets minus their total liabilities. In simpler terms, it’s what you own minus what you owe.
I don’t think it’s that simple. I view it as two calculations, estate net worth and practical net worth. Practical net worth being those assets easily liquid and available to spend if necessary or desired. Estate net worth is the standard definition.
Connie’s jewelry collected around the world over 56 years may be an asset, but I’m not telling her that. Doing so would make me a liability.
A person’s home is an asset, but not practical to spend as you still need a place to live. Same with a vehicle assuming you need transportation to make a living or take your spouse to the jewelry store. A vacation or any second home is both a practical and estate asset.
Is your IRA or 401k part of net worth? Most people would say so and legally they are, but I don’t think so.
Is my pension an asset toward net worth? Nope, not any more than a person’s salary. It has no lump sum value to me and evaporates when I do. If an IRA or 401k is your resource that generates retirement income, I would, for practical purposes, exclude them from net worth just like my pension. If you spent them at once you have no income. On the other hand, I don’t use my IRA as income so perhaps it is an asset.
I count paid up life insurance as part of net worth and so it is for estate purposes, but questionable for practical purposes because the value is not available until … you know.
I calculate our net worth on Fidelity, but it does not include any personal assets, just all investments plus our homes and my life insurance. Frankly. I have no idea how to value the stuff we own, nor will I try. I have a 1929 catchers mitt and a hundred year old diamond ring (with a crack) if anyone wants to give it a go.
Net worth is deemed important for these reasons. I suspect not all this applies to retirees and I question other purposes if you think about the estate definition.
According to Empower the average and median net worth at age 50 is $1,489,427 and $288,753.
At age 60 $1,684,180 and $442,234.
While 80 year olds have $1,515,041 and $342,212.
Given what is included in net worth, those medians are not overly impressive, especially for individuals who own a home. Who knows how accurate those numbers are?
Americans believe it now takes an average net worth of $2.5 million to be counted as rich, a 14% increase from last year’s $2.2 million, according to a new survey from Charles Schwab.
To me, for most people being rich is more a factor of income and liquid assets, not net worth of which perhaps a third or more could be a home.
The Empower numbers do tell me something though – how fortunate we are and that even with my seat-of- the pants, lackadaisical approach to finances, sans budgets and spreadsheets, one can be financially successful – with time on your side.
Money is fungible. But this appears to be contrary to Dick’s approach of every spending goal having its own account.
Following that idea is how people get into trouble- using money intended for one purpose for another. Would take money from your 401K or IRA to buy a car?
I know someone who retired and immediately took most of his 401k – $200,000 and bought a large RV and after a year or so found out he couldn’t afford to run it and sold it at a loss. That is why I say qualified plans are not a part of a persons practical net worth, it’s not practical to see it as fungible.
Mr. Quinn, one of the challenges with thinking as you suggest is that one size does not fit all or even most retired folks. Your example of a fellow with a $200,000 401k wouldn’t be meaningful to someone with a $2M 401k, plus a taxable account and a Roth to boot. Perhaps someone whose finances are only marginally ample might find it helpful to segregate so that their funds endure through their retirement. Most HD readers are quite competent in handling money and don’t need this kind of crutch.
So you know someone who is stupid and thus want to rewrite established definitions for what? To save them from themselves?
People who are bad with money will always be bad with money. It doesn’t mean everyone who refuses to designate their 401k as purely for one thing is similarly bad with money.
You can keep yelling “practical net worth” as much as you want. All anyone is hearing by now is you saying cash you personally can afford to waste. It’s simply not meaningful for anyone else.
“Following that idea is how people get into trouble- using money intended for one purpose for another.”
Actually, spending beyond their means is what gets people into trouble. As has been pointed out here by others, you seem to be unwilling to accept that someone could have been financially successful in life, saved aggressively, built a comfortable net worth, chose to retire early, may have multiple bank/brokerage accounts (pre and post tax), and pays expenses from accounts based upon rmd requirements, portfolio balancing, annual tax considerations, life events, etc. In this way, he/she takes an aggregate portfolio view when spending vs designating individual accounts for specific purposes. While not average, many such people exist.
It’s pretty much the same thing depending on how you look at managing your money. Check out previous article. https://humbledollar.com/2020/07/banking-from-a-to-f/
What is “pretty much the same thing”? I read the linked article and you have introduced entirely unnecessary complexity – well, unnecessary for anyone with a reasonable degree of self-discipline.
I did have a second current account for travel at one time, mostly because it didn’t charge foreign transaction fees on ATM withdrawals, but when Cap One stopped paying interest on it I closed it. I also have one fund at Vanguard originally designated the “new car” fund, but I haven’t added new money for probably 20 years (although interest and gains are reinvested) and for tax reasons I will probably buy my next car with an RMD.
Just because someone makes a bad decision doesn’t alter the nature of money. You are still fixating on the idea that an IRA is different from a brokerage account when the only difference is the tax treatment. When I was working I saved money in a 401k, for retirement. When I was working I saved money in a brokerage account, for retirement. My retirement expenses could include the monthly fee for my CCRC, my Medigap premiums, trips abroad, new clothes – anything I buy in retirement.
I drive a 2007 Camry Hybrid with minimal safety features. It would make sense, at 77, to replace it with a safer car. If I look at my portfolio and see that I will spend 1% of the total to cover next year’s expenses I can afford the car. If I will spend 5% I should keep driving the Camry. It makes no difference whether I pay for the new car with next year’s RMD or money that’s been in my brokerage account for decades.
If you live long enough RMDs will move most of the money from your IRA to your brokerage account.
So if someone has an IRA and another taxable account, both with exactly the same number of shares in exactly the same mutual fund, the taxable account would be part of net worth and the IRA would not. On the day this person retires and starts using the IRA for income, their net worth doubles. Why does this make sense? I do not understand the lack of consistency in this accounting.
This is all a discussion of liquidity, not net worth.
As I tried to explain legal/traditional net worth includes all assets. All I did was say that from a practical usable net worth perspective there is a difference. When talking about qualified retirement plans for example, if a 40 year old had $100,000 in their 401k and 100,000 in the bank net worth is $200,000, but the 401k is not available at all or perhaps with penalties.
I am not trying to redefine net worth. However, I do feel that assets used solely for retirement income should be considered differently from typical net worth simply from a practical spending/use point of view.
My initial thoughts about this post was that this is really just an exercise in semantics, but now I get your traditional vs. practical concept. I’ve used an analogy of guys using their retirement accounts like a cookie jar, grabbing a handful of money every time they get hungry to buy something. People have to learn to distinguish between what can be used now, and what needs to be preserved in order to meet future income needs.
Consider this scenario. Let’s say that this year my expenses exceed my pension plus SS by $10,000. Over the course of the year I move $10,000 from the money market fund in my brokerage account to my bank account, and spend it. Is my money market fund no longer an asset? The brokerage account?
Now posit that the $10,000 consisted of interest and dividends from stock and bond funds in the brokerage account. Are they no longer assets? What if I sold $10,000 worth of shares in one of the stock funds? Is that fund no longer an asset, while the money market fund is?
I have to take an RMD. In December I use most of it to buy more shares in the fund I sold in paragraph two, but I put $10,000 into the money market fund. Is the money market an asset again? The stock fund? Say the IRA actually gained more over the year than the RMD, is it still an asset?
Can’t you see that you are both ignoring the fungible nature of money and needlessly complicating a very simple concept? These were all assets in January, and they are all still assets in December. Meanwhile I have spent $10,000 from my Vanguard account, but the account is worth more than it was in January. (Of course in a bad year it will be worth less, but by more than $10,000.)
I should add that I regard my entire portfolio as a source of retirement income. That’s why it exists. If my pension had had a COLA, and I had thought that my pension plus SS would cover my expenses in retirement I wouldn’t have thought I needed a portfolio. Therefore, using Mr. Quinn’s logic, I have no assets. I disagree.
“I regard my entire portfolio as a source of retirement income. That’s why it exists.”
Same here.
And whether regarded that way or not, it is all part of our net worth, in addition to things we own. We can choose to count whatever we want in our own personal math, but it doesn’t change the fact.
Even if we fully intend to spend an amount tomorrow, as of today that amount is part of our net worth.
We may fully expect that someone will inherit an amount, but as of our last day on earth, that amount is part of our net worth.
This is just following the already generally accepted definition of net worth. We can all still choose to use whatever mental accounting works for us without needing to reinvent that wheel.
You still haven’t explained why you think an IRA is different from a brokerage account. The only real difference is that one is tax sheltered and one is not. You can hold the same mutual funds, ETFs etc. in both. If you were spending the interest from your muni bond fund in your brokerage account would you claim that it was not an asset?
If an IRA and brokerage account are both used as sources of income in retirement there is no difference. However, if the IRA is there for retirement income you can’t also use it for anything else and still have income. If the brokerage account is just an investment it is an asset and can be converted to something else maybe another asset or maybe a trip in which case the asset disappears. You don’t have that ability with an IRA providing retirement income.
I don’t get your theory.
If you have a million dollars and no debt your assets and net worth is one million dollars. Until you spend a portion of the money and you are no longer in possession of that amount it is still an asset. Only then are your assets and net worth reduced.
Let me see if I understand this. Let’s use a simple example. As of today, retired 75 year old single female, no pension, $500k in cash, $500k in intermediate bonds, and a 401k with $500k in stocks. No other assets or liabilities. Each year, this young lady pays for some expenses with a combination of cash interest and bond dividends. Each year, she takes the required RMD and uses roughly 1/2 of those funds to pay the remaining expenses. The other 1/2 of the RMD she splits between her cash account and buying more bonds. What is her net worth today? I say her net worth is $1,500k (assets minus liabilities). Since her cash, bonds and 401k are each being used as “income”, you seem to be implying that the 401k, or maybe all three, should be excluded from net worth, correct?
If the person dies they are all net worth. If they are used for and needed as retirement income, from a practical view they are not net worth if spending the money on other things would deplete income to an insufficient level. How can you commit a resource to a specific purpose and at the same time say it is already committed and being used?
So essentially you are saying I’m “net worthless” until I die, as I have always said (jokingly) that I want to die with one dollar in my pocket.
I find this nothing more than another case where you take a solitary contrarian position that most of us know by now is one from which you will never budge. Most of us have no problem considering components of our wealth that we use for specific purposes, including generating income, as assets.
Then please do so.
Exactly. I think this thread has jumped the shark. At least the downvotes provide a sign to innocents walking in here that there is probably one form of thinking they probably shouldn’t adopt unless they are in the same position and not needing to balance total portfolio for future needs.
I agree. It appears the notion of a legal definition re: IRS of net worth and my alternative practical version considering the availability of an asset for any desired use beyond income as net worth cannot be separated by most people. Oh well, so be it.
So it appears what you are saying is anyone that isn’t filthy rich and can live only off of their passive income has no assets and are “net worthless”.
OMG 🥲
But you write that as if it’s a flaw in everyone else’s thinking but your own. Whereas everyone for whom net worth matters in some way because they need to be able to risk manage their resources and returns long into the future has long since got comfortable that assets aren’t either/or.
That’s your interpretation, not mine. I view net worth at two levels, I put that idea out there and then when necessary, I defend my position. That’s all there is to it. Food for thought agree or not.
When it comes to net worth related to estate purposes I see no disagreement. For the practical use of money, especially related to assets needed for retirement income, I think a modified view is prudent.
All I’m saying is if I had a $1 million IRA and I need that to last for my retirement life income, or I had a vacation home worth $500,000, I would view hem differently. I could sell the house and spend the money anyway I wanted, but I don’t see that as applying to the IRA.
Would the person with the IRA alone have the flexibility to use all or most of it for purposes other than retirement income?
Yes, the IRA is an asset and would be included in an estate, but for practical purposes – providing retirement income- that money has a fixed purpose it seems to me.
Everyone, and I include you in that group, is entitled to their own frame of reference and thought for how they manage their money. And as long as you clearly explain that your ideas serve your purposes in this context they are fine.
However, from any other non internal perspective, such as applying for a loan, we must fall back into perspectives such as the written loan application that all lenders make you comoplete to define income and net worth
All of these applications contain three important sections; one where you list your assets and one where you list your sources of income and one where you list liabilities.
In the 2nd you enter your SS, your pension, annuity income, taxable dividends, rental income, interest income, trust income etc.
In the 1st you list your assets, including real estate, bank accounts, brokerage accounts, retirement accounts, etc.
And in the 3rd, you list liabilities, including car loans, home loans, etc.
There is no sequestering or separation of assets based on how the income they produce is used. Income dollars are fungible and they can be used for any purpose whether for paying living expenses while retired or otherwise. And, in fact, if one uses some of their brokerage assets to purchase a retirement annuity, and should they then afterward apply for a loan, their net worth would be lower and their income higher.
None of this has changed since I studied accounting 50 years ago at university.
I wonder, perhaps you know, if the loan officer would make a different decision if the sole or primary asset was a 401k or IRA and also was the only source of retirement income?
So are you saying that if someone’s only asset is 10 million dollars, and they are applying for a 500K mortgage they would be denied because they don’t have any assets?
How did you ever come to that conclusion?
If the loan officer asked for a list of your assets and you omitted a 401k account because you were using it as a source of your retirement income, I think it is safe to say that you would be less likely to have your loan approved.
My assumption in this case is the government believes your retirement accounts are sacrosanct. They don’t want to wipe them out to finance a child’s education.
When I discovered this I mostly steered my savings to my 401K.
I know when applying for college student aid a parents 401k is considered differently than a brokerage account – one readily available the other not. I would expect the 401k to be listed in your example for a loan, but does it have equal consideration with other assets? A qualified Plan cannot be taken by creditors so that may be a loan consideration. As far as lenders are concerned it is not an available asset.
government believes your retirement accounts are sacrosanct. They don’t want to wipe them out to finance a child’s education.
When I discovered this I mostly steered my savings to my 401K.
Unfortunately, today, loan officers have little authority as to who gets a loan. For most personal loans including mortgages, there is some sort of computer algorithm or possibly AI that weighs the data and decides who gets a loan. I don’t have any direct info about the process except that I was able to get a home loan before I started SS at a time when I had virtually no income. What I had was lots of assets including large tax deferred accounts, and a history of making large Roth conversions and paying the tax out of assets.
Lenders generally want to loan money to people who don’t really need it. It isn’t the nature or type of financial assets, but their relationship to one’s liabilities and expenses.
Assets in IRAs are protected against bankruptcy up to around $1.5M. I am guessing that a debt free individual with a $4M IRA would have no trouble getting a loan.
IRA protections vary greatly by state, but I believe the $1.5M bankruptcy protection referenced above is roughly the amount protected by federal bankruptcy law (Bankruptcy Abuse Prevention and Consumer Protection Act of 2005).
You can find more info here:
https://humbledollar.com/money-guide/retirement-accounts-2/
Very interested in a reference for the $1.5 million. Haven’t been able to find any limit.
Dick — Oops, I mistakenly replied to stelea99. I copy my response here so you’ll get notified — IRA protections vary greatly by state, but I believe the $1.5M bankruptcy protection referenced above is roughly the amount protected by federal bankruptcy law (Bankruptcy Abuse Prevention and Consumer Protection Act of 2005).
You seem to be fixated on the notion that an IRA is different from a brokerage account. What if the sole source of retirement income is a brokerage account, and there is no IRA? Money is money, whether it is in an IRA, a brokerage account or a bank account. Until spent, it is an asset.
I know the way these threads display is highly irritating and you end up with different responses in different places so I apologise for repetition.
There is something in your style of writing that makes it seem like you are trying to get confirmation of your point of view and you the e trench with a dogmatic response which implies you cannot countenance anything else.
I think you have to bear in mind you are probably writing for a more financially literate audience here than the hypothetical simple factory worker you may have communicated to in your career.
I don’t disagree with your last above post. I just think in your posting of a practical or surplus net worth figure you are a) taking yourself well away from any published data so it makes comparison meaningless and b) trying to teach grandma to suck eggs when it comes to the wisdom or otherwise of big capital splurges.
Most people who don’t screw themselves financially figure out fairly early in their careers that savings pots are to be cherished and fed for future needs rather than available to spend freely on passing wants. Because you’ve never been a budgeter this is perhaps more of a revelation to you than anyone else responding.
It’s perfectly possible to designate part of a 401k or other savings vehicle as “fun money” if you’re doing a spreadsheet based drawdown strategy. In fact I designate my drawings plan (or income if you like) as Essential, Lifestyle and Luxury while being open to the idea that Luxury might flex up and down as the portfolio waxes and wanes. And if it goes unspent/undrawn it of course carries over as your concept of surplus/practical networth.
Sorry I come across that way, I put something out there and if people agree, fine. If not, I see it as a way of testing my point. Some good counterpoints are usually raised. On the other hand, just because I oust against what is perceived as the norm doesn’t automatically mean I am wrong either.
What I don’t understand is why people get upset just because I disagree. if they are convinced I am wrong. If what I say is counter to their views and what they do works for them and they have confidence in it, that’s fine and what I say should not matter.
I guess the prime example is my views on retirement income replacement. I don’t think anyone agrees with me and some people say they live “comfortably”on 40% replacement. That’s fine too, but I sure couldn’t do it which is why I worked to age 67 – the price I paid.
Like I’ve said before I find your pieces valuable in at least they help me understand why your approach isn’t suitable for me.
But if I followed your approach I’d be working way too long into my remaining life and likely dying with far too much.
I do worry though that in the volume of your items and your dogmatism you are setting a example which could lead casual readers into personal financial traps or a feeling of inadequacy/despondency rather than empowering them. Particularly the fixes which are far from simple in reality – “don’t worry about budgeting for retirement simply replace all your working income with a pension or bought annuity” and “your net worth only lies in assets you never need to draw on”.
What might have improved your original post is to go a step beyond in thinking and perhaps subdivided total net worth into “needed net worth” plus your “surplus net worth”.
Thus someone with a total portfolio of say 1.2m and a house worth 400k could apply a 4% SWR against anticipated annual expenses of 40k and say
Needed net worth = 40/0.04 =1m
Surplus Net worth = 0.2m
Property net worth = buffer for reverse mortgage = 0.4m
Total NW 1.6m
You might say that person doesn’t have enough slack to be comfortable because you’d only count the 0.2m. I’d counter that they are fine because they’ve actual got 160% cover on their needed net worth. And actually a 4% SWR is pretty prudent in itself.
Even if you draw a pension you can multiple up the amount you actually spend of it to get to an equivalent of that needed net worth figure. Monthly spend *300 would get you to an equivalent.
No. Net worth = assets – liabilities (can be negative) at today’s date.
Estate = assets – liabilities at date of death.
Assets remain assets until converted to cash and the cash is spent. If converted to cash and the cash is not spent it is still an asset.
I saved money in a 401k, for retirement. I saved money in a brokerage account, for retirement. Both are assets until converted to cash and the cash is spent. The only difference is that the 401k (now IRA) grows tax-free.
Although we spend about 1/3 of our RMDs each year on living expenses, our IRA balances are greater than they were when we retired 5 years ago. I suppose we could only use distributions from one of our IRAs for retirement income so that the others would meet your notion of an asset. However, we’ve never felt the need to do so.
“However, if the IRA is there for retirement income you can’t also use it for anything else and still have income.”
That is equally true of a brokerage account. In both cases if you convert the asset to cash and spend the cash it no longer exists. In both cases I can invest in, say, a bond fund. I can spend the interest from the fund, but I can also sell the fund and spend that.
I am currently using my brokerage account for income, does that mean you don’t consider it an asset? A liquid asset is not necessarily permanent, but it still an asset while you own it.
And what about RMDs? Say your RMD this year is $50,000. In January that $50,000 is in a stock fund in your IRA. According to you it isn’t an asset. In December it’s in the same stock fund in your brokerage account. Now it is an asset? How can that possibly make sense?
It appears you are not using the IRA as retirement income. Could you take the entire IRA and buy a new car, and a boat thus obtaining a new asset without affecting retirement income? If the answer is yes, the IRA is an asset and part of net worth. If no, it’s not a practical net worth asset as it is needed to generate required income. We are talking about two different concepts of net worth.
“If an IRA or 401k is your resource that generates retirement income, I would, for practical purposes, exclude them from net worth just like my pension.”
This makes no sense. All assets, especially but not exclusively liquid assets, are available to be converted to income. Once you have retired, all income is retirement income. Going forward, most people will have no pension, and will need to supplement their Social Security. It makes no difference whether they use their RMDs (assuming they have any) or sell assets in their brokerage account. If they withdraw more than their assets grow in a given year their net worth will decline. If they withdraw less than the gain their net worth will increase. The objective is to die with your net worth still above zero.
For the last few years my pension plus SS exceeded my expenses. That just changed. Did my IRA magically cease to be part of my assets? Of course not.
Your 401k in the example has already been converted to income, your income source. To me that means it cannot be used for other purposes as you would another asset. So, practically it is not part of net worth.
When your pension and SS were sufficient income to live on, you could have used your IRA as you like, now it appears that is no longer the case and it will be important income source At this point would you say the IRA can be used for other purposes?
If you took the IRA and purchased a life annuity, would you count the annuity income as an asset? I wouldn’t, it has no cash value.
As an aside, just curious as to why since moving to the CCRC your expenses seem to be increasing?
As I said, any asset, CD, bond, stock, mutual fund etc. can be used for income, WHETHER OR NOT they are held in a 401k or IRA, or a brokerage account. I am not spending my RMDs at this point, I am using my money market fund, but my IRA would still be part of my net worth if I did.
My expenses have increased because I am paying a monthly fee to my CCRC. On the other hand, my taxes will likely decrease because part of that fee is deductible as a pre-paid medical expense. I don’t yet know to what extent that will offset the increase in my expenses: the refund I got for the entry fee last year is pretty much covering this year’s increase in my expenses.
FWIW you can include the value of your pension in your net worth, you just have to calculate it’s present value. That value would sink over time, at say 65, purchasing that cash flow is way more expensive than at 80. Make sense?
It all depends on what you want to measure
What possible reason would there be to include an annuity only pension in net worth? Would you include salary in net worth? What’s the difference?,
A pension is an owned resource, you can attribute a value to it. That value changes over time, but it exists. If you’re counting up your assets, it would count.
Salary isn’t an owned resource, so that you couldn’t say, I know I’m owed $X for the next Y years.
The argument to include pensions in your net worth is that it’s a variety of fixed income and if you want to maintain a certain balance between equities and fixed income, you don’t want to accidentally inflate the fixed income side.
Now, these are nuts and bolts ideas. Tools that we can use that let us have different perspectives on our circumstances and that being able to see things in different ways, usually makes us better decision makers.
I think maybe the reconciling point is that Quinn isn’t measuring net worth in any known sense but something that we can all possibly understand called Surplus Net Worth. i.e. an amount that he is never likely to use or need based on expected expenditure patterns.
Which maybe is better than facing up in your 80s to a fact that with a large pension doing lots of heavy lifting actuarially traditional net worth will be decreasing many years.
Gee, you sound like an actuary or accountant. Sorry, i will never be convinced my annuity only pension is part of net worth or a consideration for investing given the investing has nothing to do with income.
Is my social security also part of net worth with value? That’s even more secure than my pension, but I suspect few people see it as an asset.
What I’m saying is that the validity of the tool isn’t in question because it’s how they come up with what pension payments, social security payments are. If you believe you have a certain payment promised to you for a certain length of time, it has a cash value (that’s also how they check plans for solvency)
A different way to think about it is that it’s the inverse of debt, like a mortgage. You can think of your mortgage as the total of what’s owed or as the monthly obligation, they represent the same thing.
How you choose to use something is a personal decision. Everyone’s financial journey is different. But even if you just look at something like a pension as an income stream, that too is a form of an asset, you’re just choosing to exclude it from other calculations.
And yes, math person
This is a great topic. I have been thinking about how to frame this question so thanks.
Like all statistics, the devil is in the details. Suppose you have a million in your taxable account invested half in equities and half in bonds and cash. Can you cash it in and have a million in your pocket? Yes, BUT, what about taxes? I don’t have a single loser, nothing I could sell today and have a capital loss to deduct. And, in fact, if I calculate what 20% of my unrealized gain would be the number is pretty staggering. So, when you think about your Net Worth, you need mental footnotes. In this case one that reminds you that until you die you have to reduce the value of your taxable account by 20% of your unrealized gain.
And, I do include my home as a part of my net worth. If I had a loan outstanding, I would have to show the loan liability on that side of the balance sheet, and so I would show a value on the asset side. I don’t see why not having a loan means that it goes off the asset side. The question, is what value to show? I kinda keep an eye on what Zillow and a couple of other sites show for the estimated sales value. And, I take a peek at what the county assessor says. I think it reasonable to take around 90% of these values, to allow for the costs of selling, and come up with a number. Then, you need another mental footnote. What about capital gains tax. Sure, if you are married, you get a $500k allowance. But, in our case, we have been in the home for 46 years. Our basis might only be around 12% of this estimated over $1M sales value. You need to take the condition of the house into account. I do have good records for improvements, and this might reduce the net capital gain a bit, but there will be a very significant tax to pay in the event of a sale.
Finally, someone mentioned not including tax advantaged investment accounts. I don’t agree with this either. Obviously my Roth goes in without footnotes. I think the IRAs/401k do as well, but with a footnote that reminds me that I have to pay ordinary income tax on any distributions. You could take the entire IRA balance out today if you were willing to pay the 39% tax, so why not include it.
The most important thing about this calculus, is not to kid yourself. Yes, you are worth X Million, but don’t forget the footnotes.
You bring up a great point, If a mortgage (or a car loan for that matter) than the associated item should be considered an asset. I don’t, but I know a number of people who use the equity in their primary home to either upgrade, or purchase additional properties. Banks use your home equity to determine eligibility for HELOCs and loans. Banks also use IRAs and 401k values when writing a mortgage for retirees who have stopped working.
That being said, I have no issue with people determining their own personal definition of “Net Worth” that makes them feel comfortable. Many retirement calculators allow an option to put aside a “legacy” amount earmarked for inheritance or charitable giving. They do not consider that amount when calculating income available for your standard of living. But that’s a choice, not a definition.
That last sentence from Rick is central to this whole discussion. How Dick or others calculate their own “net worth” is a choice. However, the definition of net worth is already out there and generally accepted. It is what it is, and seems to me a bit useless to argue about what it should be.
Hear hear!
You say “To me, for most people being rich is more a factor of income and liquid assets, not net worth of which perhaps a third or more could be a home.”
Perhaps you’ve never read The Millionaire Next Door, you’ve just defined what the authors call ‘big hat no cattle’. These are people like lawyers and doctors who have huge incomes but have nothing to show for it. Unlike you, I’ll take a huge net worth over a huge income any day! Luckily for me, I have both.
How would you live on a huge net worth?
For example, if one had a stock portfolio worth 4 million dollars paying dividends of 3% that would produce income of $120,000 a year.
Simple. You draw on it as and when needed leaving the rest to grow.
Clearly what Robert meant is that those who only measure themselves in income don’t necessarily increase net worth. If you think your earning power is going to last forever there is no need to moderate one’s impulses re fancy vacations and toys and no expense spared on kids etc
Obviously that’s extreme, if nothing else high earners seem to like to treat themselves to McMansions and the like which seem to be a reasonably reliable store of wealth (if you haven’t just maxed out prior to 2008).
You would spend some of it. How do you think “rags to rags in three generations” happens?
The technical definition of net worth is all assets minus all liabilities. That’s what it is, plain and simple, BUT, that number may have no practical benefit for someone, as you suggest. So people calculate their assets various ways depending on what is important for them to know.
In my case, I look at several numbers. Are any of them “net worth”? I don’t really care what the definition is, I care what the number tells me.
One number is basically net worth in the technical sense, but I don’t include tangible personal property (no furniture, cars, clothes, etc.). This is just so I have a general sense of estate value.
Then I look at all liquid assets plus the value of my anticipated modest pension. That’s the number I use to determine the value of assets for the purpose of my investment allocation. Do I have to include pension? No, but that’s the way I do it. Interestingly, I don’t include Social Security for this purpose. I could, but I don’t. I do, however, include the value of Social Security (and pension) plus all liquid assets when calculating a projected safe withdrawal rate in retirement.
None of the above calculations above is truly “net worth” based on the accepted definition.
The media would do all of us a service by being very clear what they are reporting when they report about net worth as well as specifying where they are getting their figures from. I don’t believe there is much consistency, notwithstanding the standard, agreed upon definition. Accordingly, I take the media reported average and median net worth figures with a grain of salt.
I don’t understand how you can pick your own definitions of some concepts that are both simple and generally accepted. Some examples:
Google net worth and you get various versions of:
NET WORTH is the value of a person and can be computed by deducting the total liabilities from the total assets that are owned by the individual.
FINRA the (Financial Industry Regulatory Authority) Which is authorized by Congress to protect America’s investors is a not-for-profit self-regulatory organization that oversees U.S. broker-dealers has as simple definition of ASSETS:
your possessions that have value—for example, money in bank accounts, stocks and bonds, personal property, your home or other real estate
What your heirs inherit is your Gross ESTATE defined by the IRS as consisting of:
an accounting of everything you own or have certain interests in at the date of death. The fair market value of these items is used, not necessarily what you paid for them or what their values were when you acquired them. They includible property may consist of cash and securities, real estate, insurance, trusts, annuities, business interests and other assets.
Not really sure of your argument or what point you are really trying to make, but it seems to me you may be conflating net worth with potential legacy assets — which is why you don’t count anything that may go down in value as it’s used for income in retirement. Set me straight if I missed the point here, because I’m not quite sure what it is!
Assets are resources that exist at a specific point in time; whereas, income is the inflow of resources over a period of time. Hence, assets actually exist but income is just a concept to explain the change in assets.
The example of the bank account was a good one. Say you have a savings account with $100 at the start of the year and during the year you earn 5% or $5 in interest. The balance of the account is an asset and the interest earned is income. If you don’t spend the $5 then your account balance $105. Your assets have increased by the interest earned or income. Or perhaps you spend the $5 to buy food which you consumed. Now you have an expense as well. Your net income is $0. $5 of interest income less $5 in food expense. Either way your savings account is an asset regardless of what you do with its income.
I hope this helps.
When I had a house I didn’t include it in my net worth any more than I do my car, although I could make a good case for doing so. I certainly include my IRAs (I rolled my 401k into an IRA). I am taking RMDs, although not currently spending them. Are you really suggesting that that money only becomes part of my net worth when it moves from tax-sheltered to taxable? Why?
Why didn’t you include your house as part of your net worth? It was an asset (and thus part of the generally accepted definition of net worth). Once you sold it, it provided the money which allowed you to finance your current living arrangement.
Mostly because it was simpler – the value fluctuated over time. I only included liquid assets – I would have to sell the house to realize the value. Now I have sold it and used the proceeds for the entry fee for a Continuing Care Retirement Community. The entry fee bought me somewhere to live and future medical care – should I count that?
“The entry fee bought me somewhere to live and future medical care – should I count that?”
In would argue no, I don’t think you can use it as a current asset, as the money you used to buy into you CCRC is money spent, and thus I believe you can not get back. But it was an asset that you spent to obtain access to your place of “permanent” residence, ie to the end of life. So I would argue that it was an asset well spent.
I could actually get some of it back, at present. The CCRC gets to keep 6% (might be 4%) at move in, and then 2%/month. Some people opt for a higher entry fee with 50% or 90% refundable, but I didn’t do that.
My wife and I moved into a CCRC last December that only has a 90% refundable option. I keep 90% of our entry fee in a separate category on the spreadsheet of our assets because our heirs will inherit it.
Of course many normal people would include assets that produce income in their net worth. Including 401ks, IRAs etc. Plus the capital value of annuities/ pensions.
But really the question is why are you measuring? To feel smug? To keep up with the Joneses? To size your potential estate?
The why matters probably more than the how. Then provided you stick to the how consistently there isn’t much of a problem. It’s not as though anyone is going to cash intheir entire net worth in one day, unless you are truly on the poverty/destitution line.
Personally I include all the things I can live off and not those that cost me like a home, car etc. I know others might include property value if there is a realistic chance of their downsizing etc
I include my house in my net worth, because I plan to sell it when I move into a CCRC. However, a good chunk of the value of the house will go toward the buy-in for the CCRC, so maybe I should not count it. It is really just a personal choice. For consistency with how I have figured my net worth over the years, I choose to include the tax value of my house.
Your last paragraph makes sense to me, bbbobbins. We don’t count our house also, b/c we plan to use it as an asset for whichever one of us is left to help pay for care when we need it. This is what our families have done. Chris
I should add that I don’t think a home has nil net worth. If you’re measuring because you want to stay above zero by the time you die it clearly has utility. You can sell in favour of renting in later life or reverse mortgage it for cash requirements.
I just choose not to think of it that way and instead regard it as part of my intangible buffer zone along with things like potential inheritance etc. It can be tapped if necessary but really only after a whole line of dominoes fall.
I didn’t get the point you were trying to make about pensions/IRA/401k not being part of our net worth? I always thought they were, especially the IRA/401k because they are invested and you don’t spend all of them in a year, you take a portion out. I can understand the pension, since it ends when we do, and nothing for heirs. But 401k and IRA have that possibility. Chris
As a practical matter you can’t use a 401k both as income and an asset to be used otherwise. As I said a 401k will be part of an estate hence part of net worth, but I don’t see it as net worth while also using it as a source of income. Unless convertible to cash I cannot see a pension as having any value in terms of net worth.
I think I see what you were trying to say, Dick. If you are using the IRA/401k for income, its value doesn’t stay the same. So the real part that is part of your estate is the part that is the net worth. But you won’t know how much that is until you pass? The other thing, you do need to keep track of your amounts, b/c you don’t want to deplete your 401k/IRA. Chris
As in other things you have a somewhat esoteric personal philosophy on things which are reasonably common ground in personal finance.
You hold a cash deposit. It pays income in the form of interest. Despite this it’s clearly an asset. 401k is no different. One could choose to liquidate it in its entirety.
I believe a 401k is very different from a practical sense. I count all my cash accounts as an asset for net worth. I also count my IRA because I do not rely on it as income. Let’s say you have a $500,000 401k that generates your retirement income. A natural disaster greatly damages your home and you need $400,000 in repairs. If you tap your 401k you have no income so to me that is not an available asset. On the other hand, a money market fund with that money would be. A subtle but very practice difference IMO.
Once again your addiction to “income” is skewing your perspective. If you need to tap any asset for 400k of uninsured repairs clearly your net worth is reduced by that 400k.
In your example one would question the wisdom of those with only 500k of non property net worth living in the sort of property that could potentially cost 400k to repair. But it doesn’t contradict the common concept of net worth in favour of an esoteric QNW.
I would add that you may have a point at the other end of the spectrum. The same householders might have an annual income of 100k from pensions and SS but no other financial assets. In their case the NPV of their income ( their pension asset) doesn’t help other than to possibly secure a loan for the repairs or they remortgage on the home ( utilising an asset for immediate cash flow). There are ways to slice and dice so I wouldn’t see a problem in including both in net worth as industry conventions typically do.
I’d add that clearly based on all your posts your net worth isn’t actually important to you as you’ve told us you giveaway and save surplus income each month. I would say at least the NPV of that amount which is surplus is definitely net worth. Net worth is however important to lots of others who need to make active decisions on balancing their portfolio because it isn’t just a toy.
I only really count financial accounts. You house, your car, your art collection, your stereo equipment are really use assets, and as long as you have money you’re not going to sell them.
I do count my pension, because it is a cash value pension that I can move to an IRA if I wish to do so. If I took it as a pension, that lump sum would annuitize at whatever interest was current at the time, and then it would turn to a lifetime-only asset. But my intent is to move it to an IRA.
But when your CB pension goes into an IRA and then becomes your retirement income, you still view it as an asset and part of net worth? Would you envision ever using the IRA for other than retirement income?
Seems to me like the IRA is an asset even if used for income. It may of may not decrease in value, but it will not “evaporate when I do”. (I am going to use that line in the future by the way).
No, it won’t which is why for estate purposes it is surely an asset, but as I said if you use it for other purposes, you eliminate or deplete your income so it’s hardly available to use is it?