Net worth refers to the amount of dollar assets while deducting the liabilities. Anyone can calculate the net worth by subtracting the debts and other liabilities. You will have a positive net worth if the assets are more than the liabilities.
“The traditional formula for calculating the net worth does not give the accurate picture.” According to Scott J. Cooper. “Businesses that hold patents and copyrights have intangible assets that are also included in the net worth calculation when determining the net worth.”
Intangible assets do not exist in reality, due to which including this amount in the net worth is erroneous.
How Tangible Net Worth Is Calculated?
Tangible net worth is simply the sum of the tangible asset minus the debts. The tangible assets can be physically interacted with such as cash, investment, and properties. It contrasts with the intangible assets that cannot be touched such as goodwill, patents, copyrights and intellectual property rights.
Businesses can calculate the tangible assets by deducting the value of intangible assets shown in the balance sheet. Here is the formula for calculating tangible net worth.
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Total assets – Intangible assets (goodwill, patents, copyright etc.) – Net liabilities
The difference between traditional and tangible net worth is that the latter goes a step further and deducts all value of the intangible assets when calculating the net worth.
Tangible assets include cash and assets that can be converted to cash. The assets that qualify as tangible assets include the following.
- Real estate
- Investments
- Cash
- Cars
- Boats
- Furniture
- Jewelry
Intangible assets cannot convert into cash. You cannot touch the assets since they don’t represent tangible assets. Examples of intangible assets as mentioned earlier include patents, goodwill, copyrights. You cannot touch these assets.
The distinction between the tangible and intangible asset is the ability to convert it in to cash. While investments can also not be touched, they can be converted into cash. In contrast, patents and copyrights cannot be easily converted into cash. So, investment and property are examples of tangible assets while patents and copyrights are intangible assets.
Benefits of Determining Tangible Net Worth
Determining tangible net worth has various advantages over the normal method of determining net worth. Here are just some of the reasons it is better to calculate the tangible net worth.
Liquidation Value
The tangible net worth helps in getting a more accurate picture of the financial position of the company. It can help in determining the liquidation value, which is the value of the company if it stops operations or is sold.
Knowing the liquidation value will help investors in making decision about investment in the business. They would know if the business would be able to remain solvent and avoid bankruptcies.
Credit Position
Determining the tangible net worth can also help creditors assess the financial position of the company. It can help the companies know whether the business applying for the loan can repay the loan if all the assets are liquidated in the event of a default.
Determine Financial Position
Business owners can know about the actual financial position by determining the tangible net worth. They will learn about the actual financial position of the company. This will help them determine whether the company can afford to take risks or play it safe to avoid a bankruptcy.
How to Determine Net Worth of Individuals
The net worth of individuals can also be calculated similar to businesses. Since most individuals don’t own goodwill, patent, and copyright, it is not required to deduct intangible assets to arrive at the personal net worth figure.
A simple example will help you in calculating the tangible net worth of your business. The first step in calculating the net worth is to list all the assets including intangible assets and liabilities. Start with the most liquid assets such as cash, checking and savings accounts. Next you should note down the investments that can include mutual funds, retirement accounts, securities, and other investments.
You should then note down the value of personal property such as furniture & items, land, collectibles (coins, art, and antique pieces), jewelry, primary residence, rental property, vacation house, boats, cars, and motorcycles.
Next, you should note down the liabilities such as home loans, car loans, primary mortgage, second home mortgage. You should also include other liabilities such as credit card debts, students loans, taxes due, and outstanding bills.
Once you have determined the net assets and the liabilities, you can arrive at the tangible net worth by deducting total liabilities from the total assets amount.
Best Practices for Calculating Net Worth
To make it easy to calculate the personal net worth, it is important to keep the financial records. All the financial asset documents should be properly organized in a folder or a computer. You will be able to find the required information quickly if the information is properly organized.
Another important tip for determining tangible net worth is to use spreadsheet software. Instead of manually adding up individual asset and liabilities, you can use spreadsheet software to speed up the process. You can use the sum () function to add all the assets and liabilities. Using a spreadsheet software will particularly be helpful if you own a long list of personal asses that can be cumbersome to calculate manually.
Lastly, using a spreadsheet will reduce the chances of errors when calculating the net worth. You will know the exact net worth that will help in making informed investment decisions.
Final Remarks
Determining net worth is helpful for both individuals and businesses. Businesses can know about the financial position of the company. They can know whether they can take on additional debts or service the existing debts. Taking on more debts in case of a negative net worth can increase the chances of a bankruptcy.
Individual can quote the personal net worth when obtaining loans. Small business owners can also include the personal net worth figure in the business plan when soliciting loans from the creditors. Deducting intangible assets from the business balance sheet will present a more accurate picture about the financial position of the company.