Understanding liquid net worth and how to calculate it

Knowing your net worth is valuable for a number of reasons, from helping you plan your next short-term financial moves to preparing you for retirement.

When you know your net worth, you have a good sense of your current financial picture, and you can map out your road to your best financial health. Part of this picture is your liquid net worth, which is the part of your net worth that you can access easily.

Your liquid net worth is a key number to know to help you better prepare to meet emergency financial needs without derailing your financial plans and established budget.

Net Worth Compared to Liquid Net Worth

Your net worth is a gauge of your wealth. It is basically the bottom-line value of what you have overall after you subtract everything you owe from what you own. In other words, it is your total assets minus your total liabilities.

Assets are everything you own that has value. They include things like investments (stocks and bonds), homes, cars, jewelry, collector’s items or cash. Liabilities are debt like credit card debt, student loan debt, mortgages, personal loans or other loans.

The median net worth of a U.S. household was $97,000, according to the Federal Reserve’s Survey of Consumer Finances. That means that half the households in the U.S. had less than $97,000 in net worth, and half have more. The average U.S. household net worth was significantly different — $692,000. The difference between the mean and average U.S. household net worth is because some U.S. citizens have a massive amount of wealth, skewing the average.

Why do we sometimes use median instead of mean or average?

It’s a great question, and there is a simple illustration that can give a clear answer. Let’s consider a typical bar with very normal people sitting at the bar. There are about ten people sitting there, and these are people with jobs, nothing fancy. They probably earn anywhere from $40,000 to $80,000 each in terms of annual salary. Also, let’s say that the average net worth of the group is about $55,000 and the median net worth is right around $55,000 as well.

Ok, now let’s say Bill Gates walks into the bar and has a seat and orders a drink. Well, Bill Gates is worth about $100 billion or so. Let’s re-examine the mean and median net worth. Well, the average or mean net worth of the people in the bar is now about $9 billion. However, if you look at median, the median net worth is still around the $55,000 mark. It didn’t really change much.

So, which metric, mean or median, best describes the group of people you typically find in this bar? Would you say that typically the person you find has a net worth of $9 billion? Or is it more accurate to say that you would typically find a person here with a net worth of about $55,000. The answer is clearly the latter and shows why median is sometimes preferred to mean. To sum up, mean can be skewed much more by extreme and outlier values while median is more resistant to these outliers.

Just because you have a higher net worth doesn’t mean you are living large. You may have all your assets tied up in an expensive house and struggle to pay your daily bills. That is why knowing your liquid net worth is important.

Liquid net worth, on the other hand, is the portion of your net worth that you can turn into cash quickly so you can access it when you need to. It does not include fixed assets like your home or car that take time to sell and provide you with money you can use for other purposes. Your liquid net worth is the amount of money you could access in a very short time.

What Counts as a Liquid Asset?

Liquid assets are those that you can change into cash quickly for its full value. Whether an asset is considered liquid depends on the timeframe you use to require the money. One rule of thumb to gauge a liquid asset is whether you could convert it into cash within 24 hours. The faster you can sell an asset and convert it into cash, the more liquid it is. Of course, the most liquid asset is cash itself.

Common liquid assets include:

• Cash
• Stocks and Bonds
• Savings Accounts
• Checking Account
• Money Market Accounts

Fixed assets are those that take more time or cost money to convert into cash. They typically include:

• Real Estate (Homes, Land)
• Automobiles
• Antiques or Collectibles
• Retirement Accounts
• Jewelry

Assets like real estate, cars and sellable items are not considered liquid because they make take quite a while to sell on the market, depending on demand. For homes and property especially, the sales process typically takes several months, so these assets would not convert into cash to use quickly in times of need.

Examples of Net Worth and Liquid Net Worth Calculations

Calculating your net worth and liquid net worth is straightforward.

Here, we’ll walk you through how to make these calculations. For this example, let’s assume your financial situation includes:

• A home with a market value of $375,000
• $200,000 left on a mortgage
• A car valued at $12,000
• Remaining balance of $7,000 on a car loan
• Student loan debt of $15,000
• Credit card debt of $3,000
• $3,000 in your checking account
• $10,000 in your savings account
• $50,000 in stocks, not in a retirement account
• $150,000 in a 401(k) retirement account

To calculate your net worth, you would add your total assets and subtract your total liabilities. Your total assets include: your home, car and the money in all your accounts.

$375,000 (home)
+ $12,000 (car)
+ $3,000 (checking account money)
+ $10,000 (savings account money)
+ $50,000 (stocks)
+ $150,000 (retirement account)
$600,000 in Total Assets

$200,000 (remaining mortgage)
+ $7,000 (car loan)
+ $15,000 (student loan debt)
+ $3,000 (credit card debt)
$225,000 in Total Liabilities

$600,000 (Total Assets) – $225,000 (Total Liabilities) = $375,000 Total Net Worth

Calculating your liquid net worth is similar, except you only include liquid assets when totaling your net assets – you do not include fixed assets. So, this would not include the value of your house, car or retirement account. However, you would include the debt you owe on a mortgage or a car loan as liabilities.

Your liquid net worth calculation would look like:

+ $3,000 (checking account money)
+ $10,000 (savings account money)
+ $50,000 (stocks)
$63,000 in Total Liquid Assets

$200,000 (remaining mortgage)
+ $7,000 (car loan)
+ $15,000 (student loan debt)
+ $3,000 (credit card debt)
$225,000 in Total Liabilities

$63,000 (Total Assets) – $225,000 (Total Liabilities) = -$162,000 Total Liquid Net Worth

You can see that, in this case, your net worth of $375,000 is significantly different than your liquid net worth, which is a total of negative $162,000. The reason the liquid net worth here was negative is because of the fact that total liabilities were greater than the total liquid assets.

When you are calculating your liquid net worth, you may want to include some items that are not traditionally considered “liquid.” You can do that by applying a discount. For example, if you wanted to sell your jewelry for cash, you probably could do that quickly if you lowered the price enough so that someone wanted to nab a bargain. So, you can reduce the full market value of the jewelry by a certain percentage – whatever percentage you think would make it sellable quickly – and include it in your liquid net worth calculation. You can make similar reductions for other fixed assets.

Do You Include Retirement Accounts in Liquid Net Worth?

When calculating your liquid net worth, you want to include those assets that can provide you cash quickly. Of course, the definition of “quickly” is different for everyone.

In general, 401(k) and IRA retirement accounts are not considered liquid unless you are in your retirement years and you can access the funds without penalty. If you withdraw your retirement funds early, they will most likely be subject to early withdrawal fees. So, they should typically not be included in your liquid net worth calculations because you cannot quickly exchange them for cash for their full market value.

However, you can actually access these funds easily with simple account transfers, so there is a case for including them as part of your liquid net worth. If you do want to include them as part of your own calculations, subtract all the associated taxes and fees you will have to pay if you withdraw your retirement account funds early. Apply all the appropriate discounts if you include them in your liquid asset calculations.

Are Bonds Considered Liquid Assets?

Generally, bonds are considered liquid assets because you can convert them into cash quickly. When you buy a bond, you are essentially buying debt by paying the face value of the debt. Then, you are repaid that amount plus interest over time through regular payments. But, in most cases, you can sell your bonds or the face value and stop collecting payments at any time, so these are considered liquid assets.

But keep in mind that you will have to pay taxes on any gains you make if you sell it for more than the face value. You might also lose money if you sell your bonds for a lower amount than what you paid for them.

Still, the transaction to convert bonds into cash is a fairly quick process, so they are considered liquid assets.

How to Monitor Your Liquid Net Worth

Keeping an eye on both your net worth and liquid net worth is important because you can track how those figures change over time. This can show you whether your net worth or liquid net worth is improving, or if your situation is getting worse. That way, you can take the right steps to try to keep things going if they are going well, or to change course if things are not going well.

So, you should calculate your liquid net worth on a regular basis – at least annually. You can track the changes on any number of personal finance apps like Mint or even just on a simple spread sheet.

You might be surprised at how much your liquid net worth can change from year to year depending on changes in your debt load and assets. When you recalculate your net worth, be sure to revisit the value of your assets. Homes often gain market value while cars tend to depreciate. Your stock portfolio may have gained significantly or suffered losses depending on the broader market conditions.

You may also see substantial changes in your liabilities, which will be lower if you have been paying down debt or higher if you’ve taken on any new debt.

The overall financial goal, of course, is to work toward reducing your liabilities and building your assets. Ultimately, that leads to building your total net worth over time.

How to Improve Your Liquid Net Worth

Your net worth and liquid net worth do change over time. Liquidity is important to staying out of financial turmoil. You can improve your liquid net worth in several ways.

First, you can reduce your liabilities. To do that, you can focus on paying down your debt.

Some people do that by putting extra money toward the debt with the highest interest rate, which is called the “avalanche” method. This method saves the most money in the long run. Another debt reduction method focuses on the smallest debt first, then paying down larger debts, which is called the “snowball” method. Some people say this second strategy is motivating because you can eliminate smaller debts quickly and see results. No matter which strategy you use, reducing your debt improves your liquid net worth.

You can also try to increase your total liquid assets. One way is to invest in stocks, which can grow over time and are considered liquid assets. Stocks can see compounding gains over the long-term.

You can also develop a budget that includes dedicating more of your cash flow to savings, which is also considered liquid funds, to help increase your total liquid assets.

Looking for more tips to improve net worth and liquid net worth? Check out our article on 25 ways to increase your net worth.

Other Key Measures of Your Financial Health

Your net worth and liquid net worth aren’t the only gauges of financial health. Other common indicators that can help you make financial decisions include:

• Your Credit Score
• Your Debt-to-Income Ratio

Your credit score is a three-digit number assigned by one of the three major credit bureaus – TransUnion, Experian and Equifax. It tells lenders whether or not you would likely make a good borrower. This score factors in your history of on time payments, whether you go over your credit limits and the amount of debt you use compared to how much you have available to you, among other factors. Having a healthy credit score is essential for getting the best rates on loans, mortgages and credit cards.

Knowing your debt-to-income ratio can give you a good foundation for making the best choice to improve your budget and cash flow. To get your debt to income ratio, divide your total monthly payments toward debt (like credit card payments, mortgage payments or student loan payments) by your total monthly income. If your debt to income ratio is higher than 50%, that may indicate you are facing financial stress and need to take steps to reduce your debt or improve your income. It is another measure of your liquidity.

Liquidity as measured by your liquid net worth and your debt-to-income ratio is key in any type of financing process. As we articulating on our recent article on boat financing:

The borrower’s liquidity refers to the amount of cash (or assets that can be quickly turned into cash) that the borrower has in various accounts. A lot of liquidity gives a lender confidence that if your income is disrupted, you can still cover the debt servicing payments on the boat.

If you’re planning to go through the approval process for a home loan or any other type of financing, take a review of your liquidity as well as these other key credit indicators such as credit score and debt-to-income ratio. You might determine that it makes sense to improve these metrics prior to going through the approval process.

The Bottom Line

Your net worth is a good indicator of your financial health. But it’s also important to know your liquid net worth to help you prepare for unexpected events like a job loss. Knowing how to calculate your liquid net worth is an essential tool to use regularly along your financial journey.