Money equals wealth, right? Well, not quite. We hear a lot about making money and building wealth, but not a lot about the difference between your overall net-worth vs liquid net-worth.
Let’s dive into what each type of net worth means. Learn about how to calculate them, and what your net worth means for you and your legacy. That way, you can get an understanding of its importance and how to improve it!
Total net-worth vs liquid net-worth
Basically, your total net worth is all your assets (things you own that hold some value) minus all your liabilities (things that you owe money on). Things that are included in your total net worth are your home value, your savings, and any property you own.
On the other hand, liquid net worth only takes into account your “liquid assets”. For most people, this makes it significantly lower than your overall net worth. The key to assets is to focus on appreciating assets.
Your liabilities are debts that you need to pay off, which includes credit card bills, your mortgage loan amount, etc.
What is liquid net worth?
When it comes to money, liquid means available. Meaning, it’s not money that’s locked up in long-term investments or physical objects.
Your net worth that’s liquid is all the financial resources you’ve acquired that are immediately accessible to you. It’s the wealth you can lean on in case of emergency, or whenever you want to make a big money move.
Examples of liquid assets
Your cash savings are liquid. So, this would include your checking account, savings account, money market accounts, and any certificates of deposit. It includes money saved in banks or credit unions.
Cash equivalent assets
Even though they’re part of your long-term wealth-building strategy, stocks, ETFs, mutual funds, and bonds still fall under the “immediately available” category.
As long as they’re not invested in your official retirement fund, your investments can be easily and quickly sold. Then you will receive your cash almost immediately.
What is total net worth?
Your total net worth is a combination of your liquid net worth plus your non-liquid assets added together, and then you subtract your liabilities.
So it’s all of the assets you own, both the ones that are easy to turn into cash, and the ones that aren’t, like real estate, retirement accounts, or land.
Then you take that total and subtract that from your debts, which leaves you with the grand total of your entire net worth.
Examples of non-liquid assets
Most of your overall net worth comes from fixed assets. One prime example is real estate. Your house might be “worth” $250,000 on the market but doesn’t convert to cash-in-hand.
Even if you were to sell it for full market value, you’d have to deduct realtor fees, taxes, repairs, your mortgage balance, etc. before getting the real “value” of the home.
Other fixed assets include long-term investments, like your retirement fund. Your IRA or 401K is “your” money, but you can’t use them without penalty until you come of age or in very particular cases.
Plus, depending on your withdrawal rate on your tax-deferred accounts, you’ll be subject to income taxes when you start drawing money in retirement.
Anything else that relies on finding the right buyer at the “right” price to turn it into cash isn’t considered liquid. For instance, the value of your home, cars, jewelry, collectibles, and other things that you could “sell” for money.
20% rule for fixed and liquid assets
However, if you want to sneak some of your fixed assets into your liquid net worth, a good rule of thumb is to undervalue those assets by at least 20% when you make your calculations.
It takes into account transaction fees and differences in your perceived value vs what you actually receive.
To find these values, refer to receipts, see what the market value is now (be sure to deduct some for depreciation), or hire an official appraiser.
Of course, your total assets both physical and liquid are an important part of your total net worth.
Why is building liquid net worth important
Overall net worth is a great way to build wealth, however, having net worth that is liquid is important if you need to get access to cash quickly.
For instance, for an emergency or an investment opportunity. Liquid assets matter because it enables you to have access to cash fast.
Why you should build your overall net worth
Your overall net worth matters because it’s how much money you truly have. Even if some of your assets would take time to convert to cash, it’s still part of what you own.
Building your overall net worth is a great way to increase your wealth and have multiple options available if you need to either sell something or use liquid cash for an expense. It gives you an accurate look at everything you own.
Net-worth vs liquid net-worth: how much should be liquid?
So, now you know the difference between net-worth vs liquid net-worth. But how much of your net worth should be liquid?
The first step is to ensure you have a solid emergency fund so you don’t have to worry about tapping into other liquid assets. That means saving up to 6 months of living expenses for unexpected events such as a job loss or medical emergency.
When you do your net worth calculation, it’s advised that you have at least 5% of your portfolio allocated to cash. However, depending on whether or not you are risk-averse may mean you allocate more of your portfolio to cash rather than investments, such as 10-20%.
You should discuss with your financial advisor about your investment goals and strategy to ensure you are on track for your investment and retirement goals.
How do you calculate liquid net worth?
So on to the next question—how to actually calculate your liquid net worth.
Add up all your liquid assets. (Or if you want to include your fixed assets, use that 20% rule.) Let’s say you have:
Your total liquid assets equal $75,000.
Then add up all your debts. Imagine you have:
Your total liabilities equal $183,000.
Next, subtract your liabilities from your assets. Hopefully, you come up with a positive number. But if you have more debt than assets, like in the case above, you can work toward the goal of positive net worth.
Note: The person above could have a positive net worth if they factor in the resale value of their home and car, jewelry and collector’s items, and retirement funds. It’s their liquid amount that’s negative.
How to calculate your total net worth?
Your total net worth is the sum of your liquid and non-liquid assets minus your liabilities.
To calculate it, add up all of your liquid assets (the number you came up with in the previous section) and then add up your non-liquid assets. Things like real estate value, items you own that are valuable, etc.
Add these two numbers together and then subtract any debts from it. The remaining amount is your overall net worth.
Do you want to see where you stand with your net worth based on your age? Check out our breakdown of what average net worth looks like by age. It’s important to know your net worth because it lets you know how your financial health is doing!
What if I have a negative net worth?
So, now you know the difference with overall net-worth vs liquid net-worth. But what happens if your net worth is negative? You could have more debt than assets which would result in your net worth being negative.
For instance, student loans, credit card debt, etc. could result in you owing more than you actually have in cash and assets. However, you are able to improve your total net worth and increase your liquid net worth by taking the initiative with the following steps!
How to increase your net worth
Now that you know about net-worth vs liquid net-worth, you know that both are important. Improving your net worth is essential to your financial well-being. So here are some ways you can increase it!
1. Pay off debt
While it’s harder to increase your assets, remember that net worth is calculated as a ratio of assets to liabilities. So one of the fastest ways to improve your net worth is to lower your debt.
Paying off your short-term liabilities is a fantastic way to build your net worth. Short-term liabilities would include debt such as student loans, payday loans, credit card balances, and car loans.
So, find the right debt repayment strategy that works for you, even on a low income.
You could also use the debt snowball method where you pay off the smallest balance first, then start working on the next debt, and so on until you are debt-free.
2. Save more money
That said, if you’ve eliminated your debt or are almost there, you can also focus on building up your savings. It will increase your assets.
If saving has been difficult for you in the past, you might consider automatic transfers, separate savings accounts, and building a “savings” line into your budget.
3. Reduce your expenses
You can also find ways to cut your expenses, and maybe some crazy ways to save more money so you can build up your net worth even faster!
For example, slashing cable, couponing to reduce your grocery bill, and meal planning instead of eating out can save you a ton of money every month. Money that you could be banking instead of spending.
It sounds simple but every little bit helps to build your net worth!
4. Increase your income
And of course, one way to increase your liquid assets is by earning more. Take on a side hustle, rent out a room, or negotiate for a pay raise. Some side hustles can bring in hundreds to thousands of dollars a month!
So, you could bank quite a bit of cash simply by bringing in some extra side money every month.
5. Sell your stuff for cash
Take the opportunity to declutter your house and sell all that unused stuff and turn it into cold hard cash.
The average American home has 300,000 items! Just think if they were only worth $1 each…that is $300,000! Okay, so you aren’t going to sell everything you own, but you get the idea.
6. Acquire more assets
Since your overall net worth relates to the value of all the assets you own, a good way to build your overall net worth is by acquiring more assets. Do this as you have the cash available and not in the place of an emergency fund or savings.
Assets you may want to add to your net worth include personal property items like fine art, expensive jewelry, and especially real estate (primary residence or rental property) and land. The cash value that these can bring will increase your net worth.
7. Invest in retirement accounts
In order to obtain a high net worth, especially in your later years, you should also be sure to invest for retirement.
You can do this by adding to your 401K or your IRA. Most people build up their retirement accounts for many years before they begin to withdraw money from them, so it helps increase your net worth over time.
Your overall net-worth vs liquid net-worth – you need to build both!
As you build up assets, you’re also laying the groundwork to pass on generational wealth. Focusing on a healthy net worth allows you to live life to the fullest now while also making decisions that affect your legacy.
Ultimately, the better you understand how to strike the balance between your overall net-worth vs liquid net-worth, the better you’ll be able to control your financial destiny.