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Personal Finance

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Give Wings To Your Financial Net Worth

30-Jan-2018

Your net worth says how well you have used your income to build assets and reduce liabilities. The strategy to build your net worth should focus on minimizing expenditures, creating an investible surplus to build and grow assets and paying down liabilities. Here are some measures that you can take to keep your net worth on an upward trajectory.

Guard against the unexpected
A dip in net worth may be due to a financial emergency that needed you to sell investments, break deposits or otherwise use up your assets. If the investments were sold or redeemed at a loss, then the impact was greater because more investments had to be liquidated to fund the emergency. Or, you may have decided to go with debt to tackle the emergency. This too increases liability and thus reduces the net worth.

Give the protection of an emergency fund to your net worth. With an emergency fund, neither would there a need to sell investments at a loss or even sell them, nor would there be any need to take on debt in an emergency. Use insurance to protect your resources. Take adequate health, personal accident, motor and other insurances, which are relevant to your needs.

Try to live in your own house
Protecting your net worth can be a compelling reason buy a home instead of living in a rented house. Rent is an expense without anything to show on the asset side of a balance sheet. An outflow due equated monthly instalments (EMIs), on the other hand, lets you create an appreciating asset, namely your home. Initially, the liabilities do go up and net worth dips when a large loan is taken. But as the value of your house goes up and the loan is repaid, the equation shifts in favour of assets and the net worth goes up again.

Focus on debt
The longer you stretch a repayment, the more interest you pay. Just as compounding lets you earn returns on investments, it works also against you when you have to pay interest on debt. The strategy should be to pay off debt as quickly as possible. Budget, save, increase your income, cut back expenses and do what it takes to find the extra money to pay off the debt. It is not enough to pay EMIs on time. Start paying down the principal too. This will reduce the interest you pay. The money saved can instead go toward building your assets and net worth.

Add to your assets
Look for any source of funds that can help you build assets or pay off liabilities. If your employer matches your contribution to your retirement plan, then make sure you contribute the maximum possible. Your assets and net worth will go up. Similarly, make sure that you take advantage of all the tax benefits that are available for investments made, expenses incurred, and others. Learn the discipline to invest the money saved on taxes to build your assets. Check if your insurance is the most efficient in terms of cost of cover. Challenge all the costs, fees and expenses you incur in your financial transactions and see where you can save some money. All of these, however small, add up and overtime become a significant addition to your asset base.

Make your money work hard
Don’t leave your savings idle in low-earning products like savings bank accounts. Invest in products that are appropriate for your goals and investment horizon and let your money compound and grow. Remember, your debt is compounding interest on the liabilities side, so when you don’t use your money efficiently you are letting the liabilities get an upper hand and pull down your net worth. Set automatic investments in place that will periodically move accumulated savings into investments of your choice.

Diversify to protect net worth
Don’t let a positive and growing net worth lull you into thinking all is well. It is important to look into the components that contribute to the net worth. There may be hidden risks that need to be addressed. A common risk is when a very large part of the net worth comes from one asset or asset class. Typically, this is likely to be your house and this happens in the early stages of your career when all your savings go to fund this large purchase. But it is important to build other types of assets in parallel, by allocating investible surpluses to them too so that your net worth is not affected by a fall in that one asset. The same risk applies to net worth where the contribution is primarily from one asset class, say equity or real estate. Diversify your assets based on an asset allocation that is suitable to your goals’ need for growth, income or liquidity. This also protects your portfolio from sinking with the fortunes of any one asset class.

Invest in yourself
If your income is not growing then your ability to improve your assets and reduce liabilities slows down and your net worth stagnates. Your ability to expand this income is limited unless you are ready to invest in yourself. This may be in the form of upgrading your skills and education, getting yourself a coach and nurturing your mind and body. It will make sure that your most important asset, namely you, are ready to take on the challenges of expanding your income. Along with expanding income, you have to consistently increase the savings rate also. You will then see the benefits of the expanding income accruing to you as your net worth goes up.

Tracking the net worth tells you if you are on the path to getting to your goal. But more than the number itself, the trend in net worth can help you identify gaps in your financial strategy that you need to correct to get your net worth back on rails.

Source : LiveMint

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