I’ve noticed that when most people think about their finances, they think in terms of their income and expenses. They think about how much they make per week or month and therefore that is how much they have to spend. However, the most financially successful people that I know think of their finances in terms of their net worth. (Just a refresher: Your net worth is the difference between your assets and your liabilities.) Even if their net worth is negative, they are constantly thinking about moving that number into the positive column.
There is a mental shift that occurs when you start thinking in terms of net worth instead of income and expenses. Thinking only about your income and expenses as a measure of your financial success is limiting. It makes you think in terms of “Making X and spending Y.” When the money is made and spent, you effectively start over from zero every month. Even if you are contributing to savings because you feel like you have to, thinking only in terms of income and expenses doesn’t move you forward very quickly. It isn’t a very motivating way to think.
However, when you think about net worth and how to grow that number, you are always working toward a better financial future. When you start thinking about your net worth, you are more motivated to save, pay down debt, find higher paying investments, and make more money. Even when your net worth is negative, thinking about moving toward a positive net worth is far more motivating than just thinking about how the next pay check will be allocated.
When we first started out, we thought only in terms of income and expenses. We knew how much we made, how much our bills were, and how much we needed to allocate for savings. That was great and it kept us out of debt and even moved us ahead a little bit. It wasn’t until we looked at our net worth that we really started getting ahead. Once we sat down and listed out all of our assets and liabilities and saw that net worth number (which was barely positive at the time thanks to a mortgage and very low equity in our home), we realized how much better we could do. We started looking for ways to inch that net worth number ever higher. It motivated us to pay off the mortgage faster, increase our earnings, and learn more about investing. Once we started thinking like that, our net worth grew by leaps and bounds. And we didn’t sacrifice, either. We just got a lot smarter about our money and started acting more responsibly. We wasted less and became more educated. When we met one goal for our net worth, we set a higher goal and reached for that number.
(If you’re going to start thinking about your net worth, I recommend a good software program that will calculate it for you. You can track it on paper, but it’s much less tedious to let a computer program like Quicken or Money handle the calculations. This is especially true if you are dealing with fluctuating investments like mutual funds or ETF’s.)
Once you start thinking about net worth, you also get more serious about protecting that number. Once we became conscious of our net worth, it became a lot more important to us to make sure that we had adequate insurance and estate plans so that we would not lose everything in the event of an accident, disability, or death. Thinking in terms of net worth made us much more responsible. When we only thought about income and expenses, we weren’t as concerned about protection because it was hard to see what there was to protect.
You don’t have to become obsessed with your net worth. Chasing a number to the exclusion of any fun or frivolity is unhealthy. However, when you sit down to make out your budget and asses your financial state, thinking about your net worth can lead to greater wealth than if you simply stick to tracking income and expenses.