It's not even the end of January, but you may have already abandoned all of your New Year's resolutions in favor of sitting on the couch and watching old movies, with your hand in a bag of potato chips.
That's a pretty good way to pass a weekend, but I'll bet you can still make some time for your already forgotten financial resolutions. To put you back on that path, let's look first at how to measure your financial starting point. Next, we'll look at how to turn your goals into a plan.
Before we get out the pencils and calculators, let me tell you what this exercise will do. By the end, you should have a pretty good idea of your general financial well-being or distress. Hang on to the calculations for the year, and you can find out whether you're in better or worse shape by the end of 2007.
To figure out your starting point, we'll do a quick measure of net worth. In its simplest terms, net worth measures your money and valuables and subtracts your debts to come up with a measure of the financial resources at your fingertips. It's easy ... until you find yourself buried under old bank statements.
We'll start with the fun side of the ledger: your assets. In other words, your money or valuable possessions. Get out your most recent statements for your savings and investment accounts. List their current value. You might want to separate your retirement accounts from your other accounts, such as checking, savings, and taxable investment accounts. We'll get back to that in a minute.
Now, think about anything else valuable you own that might count as an asset, such as real estate, a business, your home, or your car. Estimate their value, and add them to your asset list. Don't get too obsessive about attaching a value to these items. You're doing this exercise to roughly compare your assets to your liabilities and measure the big picture. Obsessing about whether the two home sales on your block last month have driven up the value of your home an extra $10,000 won't add much to the calculation.
Now that you have all of your assets written down, add them up. For extra credit, figure out how much of your assets count toward your retirement kitty.
Bask in the total amount of money in the bank for a moment before we move on to the less exciting side of this calculation: debt.
Now, it's time to pull out your most recent credit card statements, even the ones with big holiday balances showing. Make a list of the size of these debts, along with your auto loans, student loans, mortgage, home-equity loans, and that money you borrowed from your college roommate years ago and never paid back. While we're perusing all of this information, make a note of the interest rate for each loan. We'll come back to that later.
After you've listed all of your debts, add them up. For the final calculation, subtract your debts from your assets. Voila! You've just calculated your net worth.
What does this number mean? Well, the actual number doesn't mean much, unless your goal in life is to be worth $5 million by age 50. Look at the big picture, and ask yourself a few questions:
- Is your net worth negative? This could be a big red flag that something is wrong and that you need to pump up your savings or seriously tackle your debts. Occasionally, particularly for young people, this may not be a serious problem.
- How do your retirement assets compare with your other assets? If you seem to have a significant net worth but puny retirement accounts, you may not be taking advantage of all of the tax breaks associated with saving in a retirement vehicle like an IRA.
- Do you have a lot of high-interest debt? Now that you have a list of your debts and their interest rates, ask yourself whether that's the best use of your money or whether you could knock out some of those debts this year.
- Do you have a sufficient cushion? Would you be in good financial shape for a while if something unexpected or catastrophic, like a job loss, occurred?
- What seems odd to you? Maybe you thought you had more equity in your home, or you thought you had more money for retirement than these numbers reveal.
If you really want to go deeper into this diagnosis, dig into your filing cabinet for your old statements and calculate what your net worth measured in January 2006. That will tell you whether your net worth improved or deteriorated last year.
Keeping your resolutions can help you get that much closer to having a happy and worry-free retirement. Robert Brokamp can help you, too, with his Rule Your Retirement newsletter service. Check out his advice for successful retirement planning by signing up for a free trial today. There's no obligation to buy.