Calculating net worth from an accounting perspective is simply assets minus liabilities. However, most people who track their net worth (like me) end up making some judgment calls. I mean, that printer by your computer has a value. If you put it up on Craigslist, you might get $20 for it. But I doubt you measure it’s value in your “net worth”. What about your car? Jewelry? Your home?
Here are some ideas on accounting for your home in your net worth:
Option #1 – Estimate market value, and subtract amount owed.
I think this is the most technically accurate definition of home equity: fair market value (asset) minus loan balance (liability). However, the hardest part is calculating fair market value. Even professional home appraisers have told me it’s “not rocket science” and there is a lot of subjectivity. (Hint: Most appraisals are ordered by the lender, and the lenders really like it when the home appraises near the purchase price. It makes loans go through smoothly.)
Some ways to estimate current market value:
- Use a home valuation website like Zillow or Cyberhomes. The problem is that these sites often rely on tax records or other databases with outdated information, leading to some weird numbers. Even comparing the exact same house on the two websites side-by-side, I have found them to differ by up to 20%.
- Take your purchase price, and then adjust according to the the percentage change in your area. For example, if you bought for $200,000 and the median house price in your town went up 10%, then put your value at $220,000
- Use your local tax authority as a reference. Some areas estimate your home’s value every year, and use it to find your property taxes due.
- Do your own comps. Did a neighbor’s house just like yours sell recently? Find the cost/area ($/sq.ft.) and compare to your own square footage.
Finally, you could also take off 3-6% to account for the (almost) inevitable real estate commissions you’ll have to pay upon selling.
Option #2 – Track the amount of mortgage balance loan paid off.
Here you essentially assume that your home just stays at the price that you paid for it. So all you need to track is the sum of your down payment and the amount of loan principal paid off so far. This should be included in your mortgage statement.
Alternatively, you could view this as a “countdown to loan payoff”. You’re ignoring the month-to-month fluctuations of the real estate market, and focusing on what you have left to pay before actually owning your home.
Option #3 – Just ignore it.
If you plan on staying in your home for the foreseeable future, then you may not care what your home value is. Your mortgage payment is simply a housing payment like rent, except that one wonderful day it you’ll just be left with property taxes. It doesn’t change how you spend your money, or how much you wish to save.
Any other ideas?
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I revalue my home once a year but doing this with my monthly net worth calculation is too much trouble. We do include the cars because their value is easy to determine and we have them paid off. Other than that it is just investment assets for now.
As we have both our own home plus an investment property I include my half of both in order to get an accurate measure of my net worth. Fortunately there is monthly average sale price data available for the postcode of each property, and I use that to get an updated estimate of the property values each month (using a factor based on the purchase price as a percentage of the average price when we bought each property). The current mortgage balance lets me calculate current equity estimate.
I don’t bother including personal effects, cars, household items etc. in my net worth as it would be too much trouble to value them, and I’m unlikely to sell them and invest the proceeds. I have thought about including my coin and book collections, but it is very hard to determine what a realistic valuation would be. Again, I’m not likely to ever sell these items.
I like method number 2 because it focuses on the value of owning a house being that you are building wealth by transforming rent into land, sort of, and that is independent of whether house prices go up and down. Nice post!
I basically use #2 but I add the value of repairs and renovations.
In Quicken, I have the mortgage set up as a loan and I have the house as an asset. As I make payments, the mortgage principal decreases.
When we make a major renovation I do a “split” transaction and expense part of it and the other part goes to increase the asset.
For example, we just did 15k of landscaping. The house value, in my judgment, went up by 7.5k.
-Wes
I like to use housefront.com and eppraisal.com to calculate the value of my home. I use the middle values and then add in my county tax appraisal. I take the average of the 3 and use that number. I only adjust the value of my home once or twice a year in my networth to avoid the frequent market flucuations.
I use “method 1” with Zillow. It’s close enough — at least it gives me a direction of the market. I also do a sanity check by comparing this to my purchase price + average gains/losses for our area.
Of course, I know the mortgage balance down to the penny … 😉
For our cars, another big ticket asset that I track, it’s easy to get a current price estimate at a place like Edmunds.com (again close enough, plus it’s good to see how quickly a car can depreciate, especially vs. a house which goes the other way!).
It’s too tough to keep track of other assets (furniture, computers, cameras, etc.). But I should probably keep a list/snapshots somewhere for insurance purposes.
What I’ve done through the years is use an approximation of the value, adjusted once yearly based on property tax valuation less the outstanding balance on the mortgage. It’s not perfect, but does give me a rough idea of what the asset is worth.
ISTM that failing to include property in net worth calculations just makes it harder to get a good idea of your financial picture — it also leads to strange things like if you pay a large lump sum on your mortgage, your net worth would drop if you fail to account for the equity jump in the property.
Jeff
#3 ignore it. I do ponder uses for the home equity, but I don’t calcualate it in networth.
Same with IRA/401K accounts. I won’t be withdrawing from them for decades besides retirement calculations why bother counting it?
I used 2 values. Our house quickly skyrocketed to over double what we paid.
In Net Worth I record Market Value in the asset section, and the mortgage in the liability section. As much as people like to say that home equity is fickle, and shouldn’t be counted… Truth is for a long time I could sell my house and semi-retire elsewhere in the states. Of course I am going to count it!
BUT I track my net worth for a measure of financial progress and I have specific goals. The goals have nothing to do with the value of my house, since I don’t intend to move any time soon. So I used purchase price in the asset section, for this purpose. I just track it 2 ways. One for posterity. One for reality I guess.
I’ve considered using assessed value, which is really just purchase price with something like 2% annual appreciation. But would go down in a price drop. As the gap between fair value and purchase price is shrinking, I think it will be easier to use assessed value in these volatile times. I’d use it for both purposes.
Ignoring it may be fine. But we have paid $100k on our house, before age 30. Most of our savings has gone into our house. Ignoring it is like ignoring 1/2 our net worth. I think you will find much the same problem since you are planning to put so much down. That is also why I include our cars, and depreciate them every year. Because when we bought a car our net worth did not suddenly go down $15k. IT wasn’t an accurate measure of progress, to exclude it. But depreciating the value of the asset with time is a more accurate measure. If you really want to measure your true financial progress, you need to include your home somehow. Unless you put 0 down or something. Then it’s not so problematic. But overall, if you ignore it, you will have a big black hole where you used to have a pile of cash. That doesn’t make any sense.
I just don’t include house in my calculation. It’s just too difficult to get an accurate value on a monthly basis. And if the information is not accurate, it will bias the whole calculation and skew the result from other manageable investments.
As far as it goes, I would use option #1 for a total net worth calculation. In reality though, I use #3 and ignore it.
Why? I’m more concerned with my investable net worth.
It doesn’t really make me richer to have $100,000 in equity in my house, because it isn’t available to me unless I sell or get an equity line. I don’t want to sell, and the equity line isn’t actually wealth until I use it for something, which would then show up in my investable net worth as an asset. Of course, if I had an investment property I would include that equity, because I could sell the investment much more readily than I could convince my wife to sell our hose and move.
Options #2 and #3 don’t really give you a good feel for what the house is worth, and could affect your net worth significantly. Of course, it all depends on how accurate you want to be in your net-worth calculation.
I tend to use the county appraisers tax valuation each year. It may not be a good representation of what a house will sell for in all areas, but it’s pretty close to what homes are selling for in my county.
-Grant
Sun, yes, but NOT including the equity in your house will skew the net-worth calculation as well.
I use option 2. I track my spending/networth on yodlee. I just created a real estate holding for the value I purchased my home. Then I have yodlee track my two mortgages. This allows me to A) have my down payment represented somewhere in networth B) keeps track of the equity I have built by paying off principle on my loans.
Yodlee also has the option to represent your homes value using Zillow’s Z-Estimate. This got a little too stressful (I’ve only owned my place for 6months) to watch and made it feel more like watching the stock market.
What I will probably do is periodically (annually?) try to determine the value of my home using some of the approaches mentioned here.
Option 2 makes the most sense. Houses are fairly illiquid and it’s hard to know how much it’s worth until you sell it. There are also the fees/costs involved in selling a house.
Most experts feel that “net worth excluding primary residence” is more useful, and I have to agree with that position. It’s not like you can just sell the house and take the money; you need to live somewhere. And most people, even when selling the house at a profit, just use it to buy a more expensive house. So, 90% of the time, that money is tied up essentially forever, so it doesn’t really mean much.
So, for month-to-month calculations it’s probably best to leave the house out of the equation. Annually or whatever, do a full net-worth calculation including the house by using your best estimate of its value.
As for cars, definitely include them. A car is a significant asset that you are almost certainly going to sell at some point (when was the last time you owned a car that you didn’t end up selling? I never have, nor has anyone I know). When you do sell it, not having it on the books will throw the whole thing off. Plus, if you have a loan on the car, and you have that on the books, you need to have the asset to offset the loan.
I don’t include things I’m not going to sell (the printer by the computer, in your example). There is no point.
I use option 1, but with a few modifications:
– I only update the house value once per year.
– I multiple the house value times 0.94, to reflect the commission I will have to pay to a realtor if I chose to see using that route.
– I subtract the load amount (which changes monthly as I pay my mortgage) to get equity.
#3 is the only option for those not interested in hype. Most realistic calculations for percentile (income, wealth, etc.) exclude the PRIMARY home from this for numerous reasons.
The biggest being is that if you are using the value or “equity” in your primary home as a means to plan for your financial future — you are in most cases in really bad shape.
I use option 3. Unless you have specific plans to sell your home and downsize or begin renting, it doesn’t make sense to me to include your home value in your portfolio. I see serveral reasons to exclude it. A home is primarily a place to live and not an investment. Your choice of a home factors in many things unrealted to the return you expect. A home also comes with considerable cost in taxes and upkeep, and thus a more expensive home is not generally a better investment. Including your home in your net worth encourages you to overinvest in a home.
I am reluctant to include my home value in my calculations. I need to live somewhere, so I don’t really worry much how much it is worth. I bought it for 180K, now it is worth 420K, it doesn’t change my lifestyle today. Unless I plan to sell which I do not. Occasionally, I might include it because if I add it as well as 401K it I’ll get a really nice round number, but this is just for laughs, just to be able to say “oh I have this (nice round) number.
I don’t include my car either because I need to drive something. I bought it for cash, it is depreciating anyway, so I might as well not count it. Sure I’ll get money for it when I resell it or trade-in or (hope not) total. I let this amount be “extra money”.
I often calculate both with and without retirement accounts. In addition of having to wait before using it, there is the issue of taxes on 401K. I don’t think I can really include the full amount.
So I usually just look at non-retirement savings. The rest I can add occasionally just to get the idea.
I use option #2. Now, if my tax assessments started increasing substantially such that for multiple years they were significantly over what I had paid, then I might consider reevaluating. But from a net worth standpoint, I only really care about the equity that i have put into the house myself. And, it is separated out from other asset classes, to make clear which items are actually liquid vs. for retirement or in equity.
Cars and other consumable items are not included, as they are necessary items for daily living, and would not be sold in any normal circumstance without then having to find a suitable replacement.
Jeremy, you ask, “when was the last time you owned a car that you didn?t end up selling?”
I’m 45 years old, and I’ve never sold a car I’ve owned. We drive ’em into the ground – gave two to charity, had one towed off to the junkyard. Right now we actually have a 93 Accord with 280K miles which we might sell if we get around to it, but that would be the first.
I find it interesting to see so many people do not include all of their major assets to estimate net worth. It’s pretty important to know the whole picture for estate planning purposes, what maximum debt load you could/should carry, how much insurance to have, etc.
Sure, you need to “guess” values sometimes, but it’s probably good to know your entire net worth +/- 10%.
I can’t for the day when the rest of my portfolio is so huge that the value of my house is trivial … ;-). Then I would ignore it.
Hey Jonathan, nice post, you nailed it from the start with the right definition:
Calculating net worth from an accounting perspective is simply assets minus liabilities.
The problem with the methods though is that they’re all inaccurate representations from an accounting standpoint. The simple reason for this is that the house is both an asset and a liability.
But point at a time. If you take #3, then suddenly net worth takes a nosedive the moment you drop money on a house. Is your little counter on the top right going to go from 200k to 100k b/c you made a down-payment?
If you take #2, then your numbers are accurate at the start of the mortgage but they slowly diverge as time progresses.
If you take #1 then you’re ignoring the multiple “non-loan” liabilities that exist on the house. Houses are constantly depreciating assets: they require regular property tax, regular paid maintenance and a bunch of ancillary services (water, gas, electricity) to be paid for the house to be useful. Of course, houses also appreciate, we all know stories of someone who spent 10k on a house and sold for 20k more. Of course Wes’s story is probably more accurate, but even then only to a point.
Then there’s also the fact that you need someplace to live, so to many people, it doesn’t really matter what value the house has b/c you have no intent of moving. And then the whole things gets mucked up by rental property, b/c you need to track this somewhere.
A bunch of readers talked about vehicles as assets, but from an accounting perspective they are not. Vechicles do not generate income, they are a mitigation of your liability for transportation (unless you’re renting it or something). So, a vehicle is an asset by this general definition, but not by the business-specific defintion.
Notice how I used the term liability there? Even if you outright own your car, you basically still “owe” money on it. You need to pay your insurance premiums, and the on-going gas and maintenance costs. If you parked your $5000 car and picked it up two years later it wouldn’t magically be worth $7000, it won’t just appreciate on its own.
Of course, the house and the car are just mitigations of required expenses (place to live, transportation), it’s just that the house has reasonable odds of appreciating over time.
So what would I do if I owned a home? I would use method #1 with a twist! I would try to account for all of the reasonable liabilities: selling costs, outstanding repairs, HoA fees/assessments, etc.
So you get an estimate for the house value & multiply it by a liquid cost, say like 94% (as Beth suggests). Then you subtract the outstanding loan value and you subtract a pro-rated repair/maintenance cost (typically 1% of the value / year). You can also add “home improvements”, if they’re actually valuable, but they’ll need to be beyond that 1%. If you have a “house slush fund” or account specifically for home repairs, you can balance this against the 1%.
So how is this different? I’m just adding in a few more accurate liabilities on the house. If you’ve ever heard anyone complain about “having to repair the water heater”, you’re just listening to someone who doesn’t understand the depreciating factors of a house. The heater was going to need repair/replacement at some point, you can either estimate it now or just take a hit later.
This model attempts to factor that in. If you’re only spending 0.25% / year on a house that needs 1% / year, then the value of your home is really down about 4% over 5 years. If doesn’t always seem like this, but trust me, it’s happening.
So yeah:
House net worth = Estimated value – “sellers fees” – regular maintenance cost – outstanding loan amount – outstanding maintenance/HOA fees – outstanding taxes (if not already paid)
Obviously, it’s not perfect, but at least we’re trying the catch the biggest holes, of course, YMMV.
Doesn’t “not rocket science” imply that it is easy. I use the first method, because I could always sell and then rent, which would artificially boost my networth.
As for the printer, I place a rough value of my possessions. The value is somewhere between what I’d sell them for and what I’d have to pay to buy replacements.
I go with Zillow less 20% in the assets column and the mortgage in the liability column. I also add what is owed on a heloc to liabilities, but never count the rest of that credit line in the asset column.
I never figure in stuff personal effects like printers, books, CDs, etc.
#1 since “net worth” is assets minus liabilities. I own my own business and include it’s debt, tax withholdings, and assets in our (family) monthly net worth update. Ultimately I want a full and complete snapshot of my net worth, from there I can drill down and create category specific analysis at will, with years of data logged.
I think its a little ridiculous not to include your primary residence in your net worth calculation at all. I am a Private Banker, and I can tell you that we definitely care what our clients’ homes are worth and how much they owe on them.
It certainly makes a difference in your financial picture if you have a $1.5 million dollar home paid in full versus a $150,000 home with a $145,000 mortgage on it. Even if neither person is planning on moving, selling, or taking out a loan against the equity, that is important information to have on your balance sheet in addition to your investable assets. If both of those people had $100,000 in cash besides their homes no other assets, those two clients would certainly look very different from a banker’s perspective.
Cars and other personal assets are a little different. We track the value of them and include them on the balance sheets of our clients, but we pretty much disregard their values (which we know are fully estimated anyway).
The way most of our clients report their homes’ values is by cost. It’s the most conservative (and reliable) way to report your home’s worth. Personally, I track my net worth monthly and assume 4% annual appreciation for simplicity’s sake. This won’t work in all areas (esp CA and NY where values are fluctuating a lot), but I live in TX and home values rarely spike or fall.
Lazy Man,
Not rocket science means that it is not a scientific method of determining value. Sure, the algorithm is there to calculate recent sales of similar type homes in a geographical area. But a lot of home purchasing is emotional, and if someone just has to have that house, they’ll pay another 5 or 10k.
And the opposite end of the spectrum, we just bought a home in a nice area for 8-10% under every estimate I have seen. Fortunately for us we did our homework on the grantor and knew the financial situation of them. They could afford it based upon their down payment, plus the fact that an out of state move ment they had no choice but to sell. This is an exception that will actually bring down the estimates of the other houses on the block. Appraisers do not know the reasons that a home sells for a value, only the fact that it did sell for a value.
I use option 2. I think the reason most people calculate their net worth is to track their progress over time.
Option 1 is probably more work than it’s worth for the personal progress purpose, especially since you have essentially no control over the real estate market.
Option 3 doesn’t let you see your progress over time. If you pay a $100,000 down payment, your net worth drops by $100,000. That doesn’t make any sense. In my opinion, money spent buying a home should not be treated the same as money spent buying fast food.
Option 2 lets you see your progress over time, and it’s a conservative number that probably wont over inflate your net worth.
I like option 3. The reason is I treat my house as a rental. I the minimum payment, and every five year or so, I refinance to pay for the lowest monthly payment like a 5/1 ARMs. Of course, if I sell my house, I will get a bonus, by having some equities in the house.
I would do option number 3, because I plan to always roll my equity into the next house I buy — and probably will never see any of it again. But it’s hard to treat it like a monthly rental expense too — because there is much more than the mortgage payment that we put into the place every year. You buy all kinds of things for a house and need all kinds of work (some you do yourself, yes, but some you need others for). Then sometimes you buy new sod or some such thing that costs like $1K and it’s an “investment”. But it’s really hard to get an idea of what you get out of it in the meantime.
I guess you could call it your “housing equity” amount. What you will bring with you as you trade up or down in your housing situation. But, for most of us, we won’t see the value of it — our heirs will.
I rent, but if I owned, I would use the net asset value (NAV) of my home in my net worth rather than a hypothetical sales value. To find the NAV find out what equivalent homes are renting for in your area. Then subtract 30-40 percent in maintenance costs and taxes and divide by inflation plus two percent.
For instance, we pay $1400 in rent (welcome to CA!) per month. That’s 16800 per year less 30 percent equals $11760. Divide this by CPI~4 percent (the historic real estate appreciation rate) plus 2 percent cap over risk free (because housing is slightly more risky than short term treasury bonds – think fire, earth quake, ..) or 6 percent and you get a NAV of $196000 – this is what the house should sell for in the long run. Now I’m positive that the market price is about $400000 on this house. This means that this house is GROSSLY OVERVALUED in the short run, so if I took out a full mortgage I would be $204000 in the hole e.g. subtract $204k from my net worth.
Incidentally, this is why we rent instead of buying.
Personally I would not include knick knack like cars, TVs, watches, jewelry in my net worth.
Mimi said option 3 then gave a couple reasons for using option 1.
well said gates vp!
you gotta go with #1. as others said, you put down a 100k downpayment and suddenly your NW goes down 100k, so it looks like your ‘progress’ has digressed. but i would also just be very conservative and ‘appraise’ your house at the price it would take it to sell ‘tomorrow’! dont put some lofty ‘ooh my neighbor sold for 450k last yr so i think i can get 550k this yr’ #, i would say go with 450k-~15% -7% for commission (again assuming you’re not going fsbo in order to sell it tomorrow)
maybe some people are just more boring and think they will just buy a house and stay or ‘move up’, so why include that #? if so, yea maybe it shouldnt be included. call me crazy, but i intend to sell whatever i own when i’m 50 and travel the world and get an rv or something and just live on the road, so i’d like to know what i get when i ‘cash out’.
If I wanted to be considered for those high-risk high reward equity investments which are “for high net worth individuals only” would they consider the equity of your principal residence? I believe the answer is no, in fact I think they disregard retirement funds as well.
So what does calculating your net worth achieve unless it opens new investment opportunities or provides leverage in negotiating a better mortgage? Is this just a measure for our own progress?
If I subtract my outstanding mortgage and remaining student loan against my assets, I end up with a net worth under 100K. Which gives me some comfort as at the end of the day I would have a roof over my head and a few dollars for rice and beans. I consider the value of my assets against the liabilities that I have today and restrict speculation on what my house might be worth.
I use a cost basis. I include in that the cost of mortgage, interest, insurance, taxes, home maintenance, and home improvement.
This gives me clearer insight into whether or not our house value is breaking even, profitable, or a loss.
Right now, if we were to sell, we *might* break even (after all sales costs and commissions).
Which, for a primary residence, after owning it for 5 years, is sobering,to say the least.
I think Option 1 is the only way to go. I don’t buy into the argument that the value of the equity is useless to calculate because (a) is asset is illiquid, or (b) it will likely be used to buy a larger house in the future.
While the house itself may be illiquid, the equity is not. The equity can be paid down and refinanced several times before the house is actually sold. This is especially true as interest rates fluctuate and people find worthy uses for the equity based on favorable interest rates. Also, it is not necessarily true that the equity will be used for a larger or more expensive home (especially if someone relocates from a large to a small city).
In my opinon not including equity in a net worth calculation makes it seem like paying down a mortgage is not important or “doesn’t matter.”
This is my first post – I enjoy your blog…Thanks.
I know this comment is late – but I was just thinking – if Johnaton does not include his down payment towards a house as net worth, then it looks like his long term savings drops from 200 to 100, correct? It kind of looks like he blew it on crack and betting black. Just a thought.
Another way to get “comps” without zillow or cyberhome is to look up your neighborhood on http://www.trulia.com. They show current retail & foreclosure property as well as recent sales. It will give a little better feel than Zillow which is wrong most of the time.
Ok, This might be a little off topic but Im trying to purchase a house and the lender is trying to get my to loan a 80-20 (2 loans) instead of loaning the 100% to avoid PMI
PMI – I heard for 2007 is a tax write off, but only for 2007. Does anyone know if it will continue next year. I googled everywhere with no luck
http://www.privatemi.com/news/media/20070506.cfm
I do something like #2. I go to realtor.org once per year and get the average home prices for the year — then I see what the average home appreciation is for my city by doing a comparison against last year. apply that to my house and get a new value.
I don’t even bother tracking cars and Motorcycles — just assume that they are expenses since I never plan to sell them. But since you are going to all the trouble of having the cars on your books — I would think you would want your single largest investment on your own personal “book” 🙂
Oh — by the way — I also included updates at the price I paid for them — like window coverings, alarm, landscaping.
Cheers,
Jake