Worthy and wise

MONEY MATTERS: Your net worth indicates your financial health; here is a little help on how to get going.

Today the term "High Networth Individual" or HNI has become a buzzword. HNIs are being chased by sundry service providers, each of them hoping to entice them into parting with a portion of their wealth by offering services such as wealth management, portfolio management etc.

But what does this term net worth really mean? We generally understand it in terms of the amount of assets that a person possesses. This is not an entirely correct interpretation.

Net worth actually refers to the difference between what you own and what you owe i.e. your assets less liabilities. 

RATIOS YOU CAN DERIVE FROM YOUR NET WORTH
Ratio	Calculation	Ideal Figure
"Liquid Assets / Net Worth "	Near Cash Assets/Net Worth	15-20% of Income
Basic Liquidity	Near Cash Assets/Monthly Expenses	3 months of expenses
Debt / Assets	Tot. Liabilities/Tot. Assets	Up to 50% of assets
Solvency	Total Net Worth./Total Assets	Above 50%
Net Invested Assets / Net Worth	Total Invested Assets / Net Worth	Above 50%

How easy is it to construct a statement of one's own net worth. Well, it is not very difficult but may be time-consuming when constructing for the first time. The main reason for this is that we ourselves are not aware of all the details of our own assets and liabilities off hand.

Besides, such statements generally use market and not book values, valuation may take some time and effort, especially for alternative assets such as art, manuscripts etc.

Let us look at the assets side first. This can be divided into :

Cash/Near-Cash Assets
They comprise the most liquid assets belonging to an individual and can be either in the form of cash, savings account balances, short-term bank fixed deposits, investments in liquid mutual funds etc. Long term bank deposits (i.e. over a year) may also form a part of this sub-set as they can be converted into cash quickly, albeit at some impact cost.

Personal Use Assets
They include assets such as your residential house, car or any other asset for which you may have a high use value but minimum or zero exchange value.

For instance, even if your sole house may be highly valued, you will not immediately dispose it off and live on the street. Also personal use assets such as cars constantly depreciate rather than appreciate.

Invested Assets
They include assets which are usually associated with net worth such as investment in stocks, land, residential and commercial properties, art, etc.

Now to part that will not bring a smile on your face. That are your liabilities. These can be broadly divided into:

Current Liabilities in the form of short term payables such as those for credit cards, utility bills, etc. These may also include income tax payable.

Long term liabilities are car loans, home loans etc. These are usually valued at the outstanding figures.

The difference between the two sides of the statement is your net worth. This statement is most useful when compared along with your income and expenditure statement.

Once prepared, the key is now to interpret it. Here are a couple of pointers :

Restrict the proportion of cash and personal use assets to around 20-25 per cent of your asset size each. Cash assets usually do not help you earn real (i.e. inflation adjusted) returns while personal use assets do not help you earn any income at all.

Also, in the case of invested assets, strike a balance between income earning (such as dividend paying equity shares) assets and assets purchased with the sole aim of earning capital appreciation (such as an unrented house or paintings).

Try and restrict your current liabilities to around 10-15 per cent of your income. Also, drawing up this statement may help you notice that while you have idle cash balances you are running up huge outstandings on your credit cards and hence utilise this cash to pay off your bills first.

Servicing of long term loans should ideally not exceed 35 per cent of your monthly income. Beyond that, you may find that debt servicing is eating into your investible surpluses.