It’s normal to compare your financial situation with others to see how your finances measure up. Indeed, if you’ve ever calculated your net worth, or even tracked your spending, you probably enjoy reading other net worth reports and spending journals.
The problem with this type of financial voyeurism is that we’re often comparing apples and oranges. Take net worth, for example. It’s supposed to be a snapshot of your financial health at a particular moment in time. But everyone seems to have their own variation or twist on what to include (and what not to include) in their net worth statement.
How to calculate net worth
There’s a simple formula to calculate net worth: Assets – Liabilities = Net Worth.
We all have different ideas on what’s considered an asset and a liability, however, which can lead to confusion when trying to compare results.
Here’s the thing: The correct formula for calculating net worth is the one you use consistently over time to measure progress. That’s it.
I track my net worth twice a year and often get questioned why I include – or don’t include – certain items in my calculations. Here are some common differences I’ve come across in net worth updates:
Value of RRSP
Some people insist on discounting the value of their RRSP to account for the taxes they’ll have to pay upon withdrawal.
For example, if you had $100,000 in your RRSP today, you might list its value at just $60,000 to adjust for taxes owing in retirement.
A question for those who track their RRSP this way: Do you also include the estimated present value of your CPP and OAS benefits in your net worth statement?
I include the full value of my RRSP in my net worth calculation for the simple reason that I’m looking at a snapshot of my current financial situation. I’ll adjust my net worth accordingly when I convert my RRSP into a RRIF and start withdrawing retirement income.
Value of RESP
We put $400 per month into RESPs for our two daughters. I include the RESP balance in my net worth calculation because that money legally belongs to the parents (subscriber) until it is paid out to the children (beneficiary).
Of course, we have no intention of keeping the money for ourselves, but we’ll adjust our net worth accordingly once it gets paid out.
I can see why some people don’t include RESPs in their net worth calculations, but I like to track it because the contributions are fairly significant – it’s savings for a future need.
Value of your home
Some people peg the value of their home at the initial purchase price and never adjust for market value. Others go off of their annual property tax assessment, while some more in-tune with the real estate market may value their home at the most current market estimate.
I started with the purchase price of our home and then simply adjusted it annually by 2.5%. We developed the basement a few years ago so I just used the cost of the renovation to bump up the market value by $25,000.
I’ve even heard of some net worth statements that don’t include your primary residence in the calculation. Accredited investors, for example, must have a net worth greater than $1 million, but their primary residence is not counted as an asset in the calculation.
How can you put a value in today’s dollars of a defined benefit pension plan designed to pay you a monthly income when you retire? And what if that’s years, or even decades away?
There are several ways you can account for your pension assets in a net worth statement.
You can add up and track all of your contributions to the plan, or you can include your contributions along with your employer’s contributions.
Finally, you can use the commuted value of the pension, which is the lump sum paid to you if you left the plan today. This amount should be listed in your annual or semi-annual pension statement.
Vehicles (include, or not?)
It can make sense to include the value of your vehicle(s) in a net worth statement, along with any corresponding loans, if applicable.
However, it can be a pain to track the value of a depreciating asset every time you prepare a net worth calculation.
I see our vehicles as an expense. Sure, I could add $15,000 – $20,000 to my net worth if I sold one today, but then I’d have to buy another car to replace it. If I sold my house, on the other hand, I could pocket the sale proceeds and just rent another place. That’s probably not realistic with a vehicle.
A word on budgeting
The same caveat goes for budgeting – maybe even more so. I often hear questions about how much one should spend on groceries in a month. The answer has so many variables that it’s impossible to give any useful advice without more information.
Are you single, or trying to feed a family of five? Do you live in Nunavut, downtown Calgary, or somewhere in the Maritimes?
Not to mention the loaded question about what constitutes “groceries”. Does that just include food, or do you lump other household items under the grocery category?
Related: Here’s a detailed look at my budget
For simplicity I include food and household items in the “grocery” category of my budget. That means when I shop at Safeway or Costco I’ll throw the entire bill into “grocery” expenses. Unless there’s something obvious like clothing, or a shovel, in which case I’ll split those off into separate categories.
Again, when comparing budgets you need to compare apples to apples before you draw any conclusions.
Keep it simple, folks (and consistent). The right way to calculate net worth is to use the same formula every time. Don’t be swayed by how others track their results. The whole point of tracking net worth is to measure your progress over time.
Get excited because you moved the needle forward, not because you changed yardsticks halfway through the game and saw an increase.
Comparing results can be dangerous if you’re not playing by the same rules.