Figuring net worth: first step in setting a financial direction

For many of us, the first time we really sit down and try to figure out how much we are worth financially comes when we buy a house. Lenders tend to want very specific numbers for assets like savings accounts, checkbook balances, and the value of any investments. The lenders are also quite interested in our liabilities: how much we owe on car loans, credit card balances, student loans, insurance policy loans, and personal loans to friends or relatives.

The result of this process is known as a ``net worth'' statement, and financial advisers say it's not an exercise that should be limited to house-buying time.

``Figuring your net worth is a basic first step,'' says Douglas Frevert, a financial planner with Thomson McKinnon Securities Inc. in North Palm Beach, Fla. ``That and figuring your cash flow are important for several reasons, including tax purposes.''

The only way you can set a financial course, Mr. Frevert adds, is to know where you're starting from. A net-worth statement not only defines the starting point, but it also shows the success you're having at converting income into assets, gives you an overall picture of the gains or losses from investments, shows whether your assets are keeping pace with inflation, and even tells you if you can handle more debt - or if you have too much.

``It's a way of measuring your overall financial progress,'' says Lori Dodson, a financial planner in Nashville, Tenn. ``It's a useful way to start setting goals, like for retirement. Also, if you're doing estate planning, you need to have a good idea of what you have.''

Most experts suggest calculating your net worth at least once a year. Family situations change, jobs change, residences change, and tax laws change. Since Ronald Reagan has been President, the United States has had two major changes in the tax laws and at least three other tax provisions that meant less sweeping changes, but changes nonetheless.

If none of these factors in your life have changed, except for a slight increase in pay and a little more accumulation in savings, you may be able to get by with a review every two or three years, and that's still more often than a lot of people do it.

The basic tools for adding up your net worth include a large piece of paper, a pencil (erasers are recommended), and a calculator.

For most of us, the most pleasant way to begin figuring our net worth is to add up how much we have before we look at how much we owe. ``I start from the bottom and work up,'' Frevert says. This means opening the checkbook and seeing how much is in that account. Then doing the same thing with the savings account, money-market accounts at banks and mutual funds, and certificates of deposit. These are known as ``liquid'' assets, which, except for the CDs, can be used at any time. Even the CDs can be tapped in an emergency, if you're willing to take the early-withdrawal penalties.

There are several less obvious assets that should be listed here, too: cash value of life insurance policies, money owed to you by others, and the security deposit on your apartment if you're a renter. These are less liquid, but some, like the life insurance, can be used or borrowed against if needed.

The next item on the asset list is personal possessions: cars, clothes, jewelry, furniture, electronic gear, china, and crystal. The liquidity of these depends on what you could get if you sold them.

``People tend to overstate the value of personal possessions,'' Frevert says. ``They remember what they paid for them, not what they could sell them for.''

Some things, of course, can be sold for at least what you paid for them. An old photograph may now qualify as an antique, as might that set of your grandmother's china. If you've invested well in art or bought good jewelry, the value of these items has probably increased. This would be a good time to have these treasures professionally appraised, if you haven't had a recent appraisal.

Finally, if you own a home or other property, add in the equity, plus a reasonable amount for profit, if it was sold. If a definite number is needed, you'll need an appraisal here, too.

Once the assets are listed, put down everything you owe: loans, credit card balances, insurance premiums, mortgages, tuition payments, taxes due, and pledges to charities.

Now subtract your liabilities from your assets. You should have more assets than liabilities. If you don't, you have what's known as a negative net worth and a big reason to change your spending and saving habits. This means you have to find ways to spend less and save more. You may have to use credit cards less, or not at all, find additional income, or rearrange your life style.

For most people, the net worth will be positive. The Federal Reserve estimates the average American has about $6 in assets for every $1 of debt, but a younger family that is building up assets may have a lower ratio, while a couple nearing retirement will want fewer liabilities.

Changes in net worth are also important. If it is not increasing as fast as the rate of inflation, your diminished buying power could be moving you away from your your financial goals, instead of toward them.

You can increase your net worth by saving more, reinvesting income from investments, or joining your company's retirement-saving program. If you're already in such a program, think about putting in more money.