Look at you. How precious you are with that smile and personality – you’re priceless!
Well, you are indeed priceless to your loved ones. But you also have another kind of “worth” on paper – your net worth and liquid net worth. That worth plays a critical role in your financial life. (Unfortunately, it’s probably much lower than the value you may want to assign yourself!)
Knowing your official net worth is critical to understanding your financial health. It’s a number that can help you plan for your future by shedding light on your current financial picture.
Your general net worth is basically the value of everything you own, after subtracting all that you owe, like credit card debt or student loans. Your liquid net worth is part of this picture.
What is Liquid Net Worth?
The definition of liquid net worth is what you would have in cash quickly if you sold all of your assets immediately. It’s different from your general net worth because you are only counting “liquid” assets, or those that you can sell fairly easily. You would not include assets that take a long time to sell, like real estate.
When your assets are liquid, they can easily be converted into cash. Assets that are not liquid are still part of your general net worth, but if it takes a long time to sell them, then they are not considered “liquid.”
People have different perspectives on what exactly a liquid asset is, but typically the definition of liquid assets are those that include:
- Cash
- Money in a Checking Account
- Money in a Savings Account
- Stocks / Securities / Bonds
Assets that are not liquid because they take longer to sell include:
- Homes
- Cars
- Jewelry
- Paintings or Artwork
- Antiques
- Collectible Items like Stamps or Baseball Cards
- Retirement Accounts like 401(k)s or IRAs
Again, there is no black-and-white definition of where the line is between liquid and non-liquid assets. Theoretically, pure liquid assets are those that you can change into cash instantly. Of course, converting anything into cash takes at least some time, if even a few hours.
The faster you can convert your assets into cash, the more liquid an asset is.
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- Traditional or Roth IRAs for Kids: What to Know
How to Calculate Liquid Net Worth
Although there are varying degrees of liquidity, liquid net worth calculation is fairly easy. It is similar to calculating a budget, where you add your income and subtract your expenses. In this case, you add up your total assets and then subtract your liabilities, or what you owe lenders. This includes any student loan debt, mortgage obligations, credit card debt, outstanding car loans and any other debt.
You could calculate your liquid net worth in several ways. The main difference between the different ways to calculate liquid net worth is the time-frame for what you consider “liquid.”
One way to do this calculation is to include only those assets that you can convert into cash within 24 hours. Or, you could include all the assets that can get you cash within a week, or a month, or a year.
With each different time horizon for these calculations, you factor in different assets. Then, you subtract what you would owe others, or your total debt and liabilities.
Some people also calculate their liquid net worth in a way that actually includes their non-liquid assets. They just subtract a percentage of the value of those assets so that it tries to reflect what they could get for them in cash quickly.
So, you might include the equity you have in your home, but discount it by 25%, for example. That discount would be applied so the value better represents what you could easily get for your home if you needed to sell it very quickly.
Your Calculation: An Example
Let’s consider a hypothetical scenario to better understand how to do the calculation.
Say you owned a home that you have been making payments on for several years, but you still carry a mortgage. We will say you bought your home for $400,000 and you have already paid $40,000 toward the principal, so let’s assume you have $40,000 in equity.
You also own a boat, worth $20,000, and a car worth $15,000. You have several pieces of fine jewelry that you have inherited, which an appraiser said was worth $7,500.
Finally, in your financial accounts, you have $5,000 in a savings account, $3,000 in checking, and a stock portfolio valued at $60,000. You also have an IRA, or Individual Retirement Account, for retirement savings with $40,000 in assets like stocks and ETFs (Exchange-Traded Funds).
In this case we would add the total liquid assets, which would be the money in the savings account, checking account and stock portfolio.
We would not include the equity in your home, your board, car, or jewelry. We would also exclude the IRA. (Although you can technically cash out an IRA with the added expense of penalty fees and any taxes owed, this process can often take about a week.)
So, in this scenario, your total liquid net worth calculation would show you have $68,000 in easily accessible money. Your general net worth would be $190,500.
Going one step further, you can divide your liquid net worth by your general net worth and multiply by 100 to get a percentage of your liquid net worth compared to your total net worth. In this case, 35.7% of your total net worth is liquid (68,000 divided by 190,500 multiplied by 100).
Keep in mind this scenario does not include your liabilities, or debt. If we included that, we would subtract it from the totals.
You can see your general net worth is greater than (or in some rare cases equal to) your liquid net worth — it is never less.
Read also:
- Asset Allocation by Age: How to Design Your Portfolio
- Making the Maximum IRA Contribution
- Closing on a House: What to Expect
The Importance of Knowing Your Liquid Net Worth
Sometimes, you need money quickly. The biggest benefit to a liquid net worth calculation is the fact that you can better prepare for an emergency like an unexpected medical bill or a car repair.
Having a good sense of how much money you can actually get quickly can give you a peace of mind that you are financially prepared for emergencies.
Of course, the ideal amount for an emergency fund depends on your personal financial situation, including your budget of income and necessary expenses like your mortgage and utility bills.
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The Bottom Line
Knowing your general Net Worth and your Liquid Net Worth can help you plan your finances so you can achieve your personal goals. With these numbers, you get a clear look at your financial picture.
You can’t access all your assets the same way. Your general net worth gives you a good sense for your overall financial foundation. Meanwhile, your liquid net worth helps you understand how much cash you can have in your hands in a short amount of time, in case you need it for an emergency.
Calculating these metrics – and regularly monitoring them – is simple and straightforward. Of course, your own calculation and results will be unique to you.
With this number, you’ll know how much money you can have in a pinch. Hopefully, you’ll also be motivated to ensure your emergency fund and cash-on-hand can cover any unexpected events.
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