Net worth, in its simplest sense, is assets less liabilities. In my opinion, it is the single-most important financial measure for us all to track (it gets the edge over cash flow since cash flow could be viewed as a subset and/or feeding into net worth). Net worth tells you whether or not your wealth is increasing and by how much. It’s an accurate and (unfortunately in bad times) ruthless measure of how you’re doing in growing your wealth.
There are different ways to track your net worth, but which you choose doesn’t really matter. As long as you’re consistent, you’ll be able to determine if what you’re doing is helping to grow your wealth or not. As such, tracking your net worth on some sort of regular schedule is a must for anyone serious about decreasing debt and increasing wealth.
How I Track My Net Worth
Personally, I track mine monthly. Each month in Quicken I update the performance of my investments, put in my income and spending, and run a net worth report. I then record it in a spreadsheet and compare it to the other months of the year as well as my status for the same month the prior year. Doing this gives me a quick report card on how I’m managing my money as well as highlights where I might need to make changes. In addition, I record my final net worth at the end of each year (and have done so since the early 90’s.) That’s how I know that my net worth has grown at a compounded annual rate of roughly 16% since then.
I used to update my net worth weekly, but that was simply too obsessive even for me. In addition, there were too many wild swings (up big one week, down big another) as the market went up and down, big bills were paid, etc. Looking at it only once a month seems to level the swings a bit. As such, this time frame works best for me.
Now I’m not saying that monthly is how often you should review your net worth — simply that you need to review it regularly. Whether it’s monthly, quarterly, semi-annually or whatever, you simply need to check it on a regular basis and make adjustments based on what you find.
Why is Cash Flow Important?
Cash flow is simply income minus expenses. It’s the amount you have left over after you earn all you can and then spend all you need/want to spend. The difference is then what you can save and/or invest. This is the amount that fuels the growth of your net worth. It’s this difference that buys the homes, investments, and the like that drives net worth higher and higher.
This is why I talk about the two parts of creating a strong cash flow — maximizing your income and limiting your expenses — so often. If you can grow the former and keep the latter in check, your cash flow will skyrocket, fueling your net worth to new and glorious heights.
Setting the Budget
The budget is the method most used for tracking/setting/managing cash flow. My belief is that in the early years of managing your own money, a budget is invaluable. It will help you see where your finances are going and how they are spent. It will help you catch things that otherwise might not be noticeable. It will help you make good financial decisions. I highly recommend having a budget for people just starting out handling their money.
After you become a bit more proficient in managing your money, I think you can go to a less detailed and less frequently updated budget. If you’ve proven that you can manage your money, (and especially control your spending) a budget isn’t needed nearly as much to ensure your cash flow remains strong.
For the first decade or so of our marriage we operated on a detailed budget that was frequently revised. We created it at the beginning of the year, tracked it through each month, and updated it at the end of each month based on the previous month’s results. It took a good amount of time and effort to this, but as I detailed above, doing this had some great benefits and was well worth the effort.
But as time went on, our budget became less detailed and was updated less frequently. It started by being revised quarterly, then twice a year, then once a year. Now we’re at the point where we don’t have an “official” budget. Our 15+ years of spending put into Quicken is our budget. Other than unique spending each year (like buying a new couch or taking a big vacation), we pretty much spend what we spent the prior year. We’ve demonstrated that we can manage our spending so tracking it so closely is not needed to make sure our cash flow keeps pumping out the money.
Those are the two financial measures that I think are most important for all of us to track and manage. If you can create an ever-growing distance between what you make and what you spend and if you can convert that difference into savings, investments, and other assets, your net worth will grow like crazy. It really is that simple.
How about you — what measures do you track? Do you agree or disagree with how I do it?
|Written on 1/7/2010 by Free Money Finance, a personal finance blog designed to help you grow your net worth. You can subscribe to Free Money Finance here.||Photo Credit: peasap|