As real estate investors, you should be familiar with what does net worth mean, as well as its significance regarding your financial standing.
Table of Contents
- What Does Net Worth Mean?
- Why Is Your Net Worth Important?
- How to Calculate Your Net Worth
- How to Increase Net Worth Through Real Estate
- Final Thoughts
Regardless of whether you’ve just stepped into the real estate market or you’ve been a part of it for quite some time now, you should know one thing:
You can increase your net worth and wealth through real estate investing.
However, in order to understand this statement fully and act accordingly, you should first be 100% familiar with what does net worth mean, how to calculate it, and finally—learn some efficient ways to increase it.
Today, we’ll be breaking down the basics of net worth—what it is, why it’s important, and how you can increase it through real estate. So, stick around until the end of our guide—and you will learn more about why it is crucial to your financial situation.
What Does Net Worth Mean?
We’ll first need to get into the core of what does someone’s net worth mean.
By definition, net worth represents the value of ALL your assets minus ALL the liabilities they owe. To put it more precisely, net worth stands for all assets (anything that has real monetary value) that an individual—or even a corporation—owns. It’s like an insight into your current financial situation.
In business terms, it is also called “book value” or “shareholder’s equity.”
Here’s the simplest possible way to put it:
The net worth definition translates into the difference between what you OWN and what you OWE—financially speaking, of course. As such, it can be positive or negative, depending on if the assets exceed liabilities or vice versa.
Your net worth should not be confused with your annual net income or the amount you earn in a year after taxes and fees are deducted from your gross income.
Moreover, different forms of assets contribute to a person’s net worth—it’s not solely tied to money, despite the common misconceptions.
Net worth can be:
- Cash in your bank account/s
- Investments (mutual funds or stocks)
- Home value
- Personal property (valuables, jewelry, collectibles)
Now that we’ve covered the basics, let’s dig a bit deeper into the matter:
What does median net worth mean?
Median net worth helps us see more clearly how financial wealth is distributed among the public and, more specifically, a particular age group. You can get the median net worth by calculating the average net worth of that group and then finding the middle value.
The median net worth for people between the ages of 35 and 44 in America, for example, is $91,300.
The difference between the median and average net worth is that the average net worth is calculated by adding up the values and dividing them by the number of values.
What does total net worth mean?
Besides median, we define total net worth. In practical terms, it refers to the amount of ownership in an enterprise.
What does liquid net worth mean?
Liquid net worth is the money you are left with after you’ve paid all your liabilities. It’s worth noting that liquid net worth is purely monetary.
Two Main Types of Net Worth
There are basically two main types of net worth that you should know about here—and that would be net worth in business and net worth in personal finance. Let’s just briefly elaborate on both concepts before we move on.
Net worth in business is what we previously referred to as “book value.” If you’re a business corporation, the lenders will look into your balance sheets to determine your financial health. And if your liabilities exceed assets, the creditor will not have much confidence in you.
On the other hand, net worth in personal finance applies to the value that is left after you’ve taken care of your liabilities. Such liabilities—typically referred to as debt—include different types of mortgages, credit balances, loans, the market value of your vehicle, and so on.
For more information on refinancing second mortgages, check out our in-depth guide.
Positive and Negative Net Worth
As we briefly mentioned, your net worth can be either positive or negative.
A positive net worth simply means that your assets outweigh the liabilities, which implies that you’re doing a good job of managing your finances. What is important to mention here is that there is no such thing as a “fixed positive net worth.”
It’s highly dependable on what you OWN.
On the other hand, a negative net is worth when your debts exceed your assets, and you struggle to pay off your financial obligations. It is nothing but an indicator that you need to focus your energy and efforts on debt reduction.
In the earlier stages in life, negative net worth is nothing unusual—it’s actually more common than you’d imagine. But as you start to climb the business ladder and expand your business (real estate in this case), negative net worth is not a favorable position to be in.
Here’s an interesting fact:
In 2019, nearly 13 million—roughly 10.4%—households in America were characterized by negative net worth. It evolved into a serious issue following the Great Recession—and people now own much less than before 2007.
Households in such a situation represent a mix of those with severe financial hardships and those currently working towards a positive net worth income.
Related: Is Real Estate Recession Proof?
Why Is Your Net Worth Important?
Besides discussing the net worth meaning and its definition, we would also like to focus on answering the question of what does a person’s net worth mean, or more specifically, why it’s essential to keep track of it?
As you know by now, a person’s net worth depicts their financial wealth at a given moment in time. Being aware of it is essential because it:
- Allows you to understand and view your current situation on a monthly/yearly basis
- Allows you to track the progress of your wealth
On a more detailed note, tracking your net worth can help you review the financial decisions you’ve made within a given timeframe. It will, hopefully, help you look at things from a wider angle and stay moderate—and motivated—with your future net worth.
How to Calculate Your Net Worth
Now that we have explained what does net worth mean for a person and its importance, let’s see how to calculate net worth.
The formula for calculating net worth is as follows:
Net Worth = ALL Assets – ALL Liabilities
With the basic formula out of the way, let’s focus on the two of its main components:
For you to calculate your assets, you need to take into account:
- Large assets: You must list your large assets first. Most people doing the math will include their house, as well as other real estate properties and vehicles they own. You should rely on accurate estimates here.
- Liquid assets: You should gather the latest liquid asset statements. They include information on your savings and checking accounts and other investments, such as retirement or brokerage accounts.
- Valuable personal property: Probably the most important part of calculating assets, you need to take into account the value of your personal belongings. Items that are worth more than $500 should be included in the list.
Take every item you listed from the abovementioned categories, and sum them up. The number you get represents your TOTAL ASSETS.
Now, for calculating your liabilities:
- Debts: First, you should note down your major debts. These so-called “outstanding liabilities” include your home mortgage or car loans that you are currently paying off. It’s crucial that you list ALL of the loans, as well as their current balances.
- Personal debts: Personal debts fall under a separate category and include student loans that you might be left with, personal loans, and the like.
Just like what you did with assets, add the items from the list above—and the number you get represents your TOTAL LIABILITIES.
Related: How to Qualify for Investment Property Loans?
Now that you have the numbers, you can subtract your total liabilities from your total assets. Yes, it’s that simple.
Regardless of the result you get, be it positive or negative—the most important thing is that you did the math and got your final result.
Now, you have something to compare your future net worth with—and, hopefully, things will only improve in the future. On a related note:
Real estate investors should seriously consider relying on a net worth calculator for a more precise estimate.
How to Increase Net Worth Through Real Estate
There are several ways in which you can increase your net worth and work towards a more favorable financial situation through real estate investing.
The most effective ways to achieve that include:
Leverage applies to the use of debt or borrowed capital for the purpose of maximizing your return on investment. In real estate investing, specifically, it is most commonly done through mortgages.
The leverage option is not only used by individual investors but by companies, as well. Such a type of “strategy” can work to your advantage if the value of your property experiences a rise. But just like that, it can reach an all-time low—and lead you into debt.
That’s why most professionals will describe the approach as risky.
How to start?
Well, you can start with your own money. For example, taking a 20% down payment for your property is an excellent way to access leverage because you’re still getting 100% of the real estate.
And if you buy an investment property, your partners can provide some—if not all—of the money.
As you already know, home appreciation is an increase in the value of your property over a period of time. However, note that the “outcome” typically depends on the type of investment property.
Single-family homes are the least expected to experience appreciation. Here’s an example you can relate to:
Let’s assume that the value of your home is $300,000. You owe $200,000 for your mortgage. And in that case, $100,000 will still be added to your net worth.
A considerable income is what will essentially keep your investment career afloat. It means that you need to carefully choose the investment property and assess its profitability and potential returns.
Here’s a piece of advice:
Right now, the wisest option seems to be to invest in vacation rentals, as they are not only appreciating in value but can bring you considerable income in a short time, too.
Related: The Best Place to Buy Vacation Rental Property 2022
What to Consider Beforehand?
So as not to put yourself in a situation where you owe more than you own, here’s what you need to consider before you decide to start working on increasing your net worth:
First and foremost, the best-case scenario would be to use your own money. It will help you in case of “unexpected twists” during the course of your investment—and prevent you from owing even more money if the investment turns out to be unsuccessful.
On a related note, you should look at your overall financial situation—and determine your abilities. That is why it’s essential to calculate your net worth right now and compare it to the old one. It will give you a more realistic picture of where you’re headed financially.
If everything goes according to plan, and you’ve decided to increase your net worth through real estate, it is crucial to pay attention to the location of your investment, too. It is perhaps the most critical point in everything—and here’s why:
Choosing a location that is cheaper seems like a smart move until you realize that it’s in an unfavorable area prone to weather disasters, for example. It will cost you more in the long run. That’s obviously not a strategy you want to follow.
That’s a wrap on net worth in real estate. We’ve explained what does net worth mean, how to calculate it, and ways to increase it through the real estate business. Let’s just go over the most critical bits once again.
Net worth is the difference between all your assets and liabilities—the link between what you own and what you owe. You calculate your net worth by subtracting all liabilities from all assets. The result you’re left with will indicate either a positive or negative net worth.
If you’re in real estate, there are ways in which you can increase your net worth and maintain good “financial health.” It’s commonly done through home appreciation, leverage, and ensuring a stable income.
If you’re considering real estate investments, pay attention to the property’s location—and, of course, your financial capabilities.
You mustn’t get carried away and go beyond your limits.
To help you stay focused and motivated, Mashvisor offers a helping hand. Since your debts play a role in net worth, you can rely on our Mortgage Calculator to do the math for you. It can precisely determine the monthly payments on your investment property.
To start your free 7-day trial of Mashvisor, click here.